The worst thing about bad credit isn’t being turned down for a loan or a new credit card. After all, there are worse things than not being able to borrow. The bigger problem with bad credit is that it can cost you money in a number of ways, and that added cost makes it easy for small money problems to become big money problems.
The more you understand about the hidden costs of bad credit, the more motivated you will be to keep your credit clean.
6 ways bad credit can cost you
Here are 6 ways having bad credit can cost you money:
- Higher credit card rates. Credit cards often have different rate tiers for different customers. People with good credit pay lower rates than people with bad credit — and if your credit rating slips after you sign up for a card, the credit card company can charge you a higher rate on future purchases. The irony is that the people who get the best credit card rates rarely actually pay those rates, because they don’t carry balances on their cards over from month to month. In all, the average rate for credit card accounts that have to pay interest is over a full percentage point higher than the average for all credit card accounts.
- Higher loan rates. Credit cards are not the only form of borrowing that gets more expensive as your credit deteriorates. Everything from car loans to mortgages are likely to cost more if you have bad credit. Lenders view part of the interest rate they charge as a cushion against the risk of the borrower defaulting, and the bigger the risk your credit rating suggests you are, the bigger that interest rate cushion will be.
- Larger down payment requirements. In addition to charging a higher interest rate, lenders also hedge their credit risk by making borrowers with bad credit put more money down on their purchases. This can cost you by forcing you to wait longer before making a major purchases, which often results in paying a higher price.
- Higher insurance rates. Some insurance companies offer discounts to customers with good credit histories. This is yet another example of how people who are already in good shape financially get the kind of breaks that can make their finances even healthier.
- A red flag for prospective employers. Increasingly, employers are reviewing credit histories as part of their background checks on job candidates. Credit problems have several negative implications from an employer’s perspective — they suggest a low level of personal responsibility, they could raise concerns about putting that person in a position of financial trust or lead them to believe that the candidate may let dealing with money problems become an ongoing distraction on the job. So, credit problems can make it tough to get ahead because you might miss out on the best job opportunities.
- Limited financial flexibility. Even if you are able to get a mortgage or a credit card initially, poor credit can limit your flexibility to manage your debt in the future. Poor credit could prevent you from reaping the financial rewards of refinancing or taking advantage of cheaper credit card offers.
4 habits that will keep your credit clean
Naturally, living within your means is the key to avoiding credit problems, but you also have to develop good habits for taking care of your financial responsibilities. Here are four habits that will help keep your credit clean.
- Organize your payments. Don’t treat bill paying like a chore that you will get to when it is convenient; you need to have a process to make sure it gets taken care of consistently. Setting aside a specific time of the week for bill-paying and automating some of your payments can help.
- Don’t use automatic bill-paying for everything. Automatic bill payments are a useful tool, but they are best suited to bills that are for a predictable amount of money month after month. For more variable bills, you may want to handle them yourself to make sure an unusually large amount does not cause an overdraft, and so you can spot any overcharges or other problems.
- Make the timing work. Coordinate the timing of your payments so they will arrive by the due date and so they are in sync with your pay schedule to ensure you will have sufficient funds in your account.
- Never borrow without a repayment plan. This is especially important for credit cards, because it is all too easy to use them impulsively. Figuring out how you will repay the money makes you stop and think before you borrow.
You’ve probably heard the phrase “the rich get richer and the poor get poorer.” One way to think about that is that financial conditions have a way of feeding on themselves. Credit problems usually make life more expensive, and thus those problems become harder to overcome. Keeping your credit clean can stop a downward spiral from ever starting.