Credit Impaired

Bad credit is a term used to describe a high credit risk based on credit history. It is reflected in a lower credit score or rating provided by the credit reporting agencies. Authorised credit providers can access your individual credit score via these agencies. This score is negatively or positively affected by several factors, including:

• Your credit history (i.e. whether you’ve made your scheduled repayments on time for any previous credit you’ve received). Lenders record this information with credit reporting agencies and it stays on your credit file for five years.
• The number of credit applications you’ve made over the past five years, whether they have been approved or not. If you’ve had several unsuccessful applications, it means that lenders generally perceive you as too great a credit risk. For example, you might be trying to overcommit yourself in terms of your level of debt in relation to your income or assets.
• Whether you’re on the electoral roll and how often you change your address. Lenders prefer stability and transparency with your contact details.

If you have a bad credit rating, your credit worthiness in the eyes of lenders is impaired. In other words, you’ll find it harder to get a loan approved, especially from prime lenders like the major banks, credit unions and building societies. And even if your application is successful with another lender, you’ll usually find that they charge you a higher interest rate and/or impose other fees and charges to compensate for the higher risk of providing you with the funds.

Your credit file includes your key personal identifiers, such as your:

• full name
• date of birth
• current and previous addresses
• driver’s licence number
• current and previous employers

It also includes the details of any credit that you have applied for in the past five years, as well as any legal judgements against you (e.g. if you have been declared bankrupt within the past seven years)

You have a legal right to access to your credit file for free through the credit reporting agencies once every twelve months. In addition, you can freely request a copy of your report within 90 days of having a credit application declined. You also have the right to have any incorrect credit history information promptly corrected, as it affects your chances of any credit approval.

Credit scores generally range from 0 to 1200. The higher your score the better. Any credit score less than 500 is generally a cause for lender concern.

Your credit rating can be negatively affected by missing your repayments (including any outstanding tax that you may owe to the Australian Taxation Office). If this continues and you remain in arrears, you may end up with your credit providers (or the ATO) taking legal action against you. All this information is recorded in your credit file.

Bad credit is often a symptom of financial stress. It’s important to understand that if you are in this situation, it doesn’t necessarily make you a bad person. It might be that you have trouble managing your money, or you and your family might have experienced a major life event like divorce or the loss of your job or your health. Whatever the reason, you’ll probably need some help to get out of your financial stress.

Signs that you’re in financial stress and could be building up a bad credit rating include:

• Not budgeting and finding that you are running out of money, living from pay to pay.
• Waiting for final notices to pay your bills.
• Regularly being forced to borrow from family or friends to help make ends meet.

You can also get a bad credit rating through having your identity stolen or forgetting to have your bills redirected when you change address.

The simplest way to improve your credit rating is to make your scheduled credit repayments in the future on time. If you’ve missed repayments on any credit provided to you and are in arrears, rectify the situation as soon as possible. Talk to your credit provider to see if you can come up with an alternative repayment plan.

It’s in their best interest as well as yours for you to repay the credit they’ve provided to you. If you do agree on an alternative repayment arrangement with your provider, make sure it is in writing and that you stick to it. Your credit file will be updated to reflect the repayments you make.

The two major things you want to avoid in the future are late or missed credit repayments. Both negatively affect your credit rating. You can take simple steps to help avoid placing yourself in this position. For example, by keeping your creditors informed of any changes to your:

• Contact details (i.e. your physical or email addresses and phone numbers), so you don’t miss any important payment due notices from your credit provider;
• Bank account details, so any direct debit repayments of your credit aren’t missed.

If you have a bad credit rating and don’t meet the standard lending criteria of many institutions, you might still be eligible for a home loan with a specialist lender who has more flexible lending policies and is prepared to accept the additional risk.

Ideally, this type of loan should be used as a short-to-medium-term strategy, rather than for the long-term. For example, it may be a refinancing option that allows you to keep your home if you have experienced some recent financial setbacks. It can allow you to get back on your feet and have a fresh start. Once you have re-established a good credit rating, you should aim to refinance your home loan again at a better rate.

• Debt consolidation home loan. If you have multiple debts that you are struggling to repay, don’t bother applying for additional credit. But you could consider combining them into a debt consolidation home loan with the lowest possible interest rate. This can help you to manage your financial affairs more easily by having a single repayment for all your debts.
• Tax debt home loan. If you have a large debt with the ATO that is beyond your capacity to repay in the short-term, it can be added to a home loan.
• Part IX debt agreement home loan. If you are struggling to repay your debts and want to avoid bankruptcy, an alternative is to enter into Part IX debt agreement with your creditors. Under this legally binding agreement prepared by a debt administrator, your creditors agree to accept a reduced repayment in full settlement of the debt they are owed. This agreement will then be recorded on your credit file and some specialist lenders may then be prepared to consider your home loan application.
• Discharged bankrupt home loan. While you cannot apply for a home loan if you are currently bankrupt, you become eligible to apply again as soon as you are discharged (i.e. no longer legally declared bankrupt, which is usually three years and one day after you file your statement of bankruptcy affairs). Your chances of being approved will be better if you apply to a non-conforming lender.

Non-conforming lenders usually specialise in providing these types of loans. Not all borrowers have or can continually maintain good credit ratings, so these lenders help to serve a genuine market need. They provide a second chance for people that they wouldn’t get with other financial institutions which have stricter lending criteria. This second chance is often all that many people ever need to financially establish themselves and repair their credit rating.

Non-conforming lenders usually assess applications on a case-by-case basis, rather than using automated criteria. However, they still must comply with the responsible lending provisions of Australian consumer credit legislation . That means they are legally obliged to evaluate your situation and assess whether providing credit is suitable for your current financial circumstances.

You should obtain a copy of your credit report before you apply for your home loan. That way, you’ll know exactly what information your lender will be seeing. It’s important to convince these lenders that you are no longer a credit risk. We are able to assist with that and can order one for you at no cost, so please get in touch. Ideally, you need to be able to:

• Explain to them why you experienced financial difficulty in the past. Generally, the less recent a repayment default is on your credit file, the better.
• Demonstrate the steps you have taken to rectify your debt/s. These steps could include the settling of arrears, the negotiation of revised repayment plans or debt agreements. This shows you are making financial progress and are taking responsibility for your affairs. Loan defaults are usually regarded more negatively than telecommunications or electricity/gas-related defaults.
• Demonstrate the steps you are taking to avoid getting into default repayment situations in the future (e.g. by refinancing your debts and/or setting up a strict budget that are adhering to).
• Demonstrate stable current employment and income.

While it’s true you’ll pay a higher interest rate on these loans to reflect the lender’s increased risk, you can usually lower this rate by decreasing your loan-to-value ratio (LVR). This ratio for a home loan is the proportion of money you need to borrow expressed as a percentage of the value of the home you want to buy. If your LVR is higher than 80%, the interest rate that you’re charged may be higher to reflect the lender’s increased risk.

The LVR also affects whether or not lenders mortgage insurance (LMI) will be a condition of the non-conforming lender approving your home loan. Mortgage insurance protects the lender if you default on your repayments in the future. The policies of different lenders vary, but many will require you to take out mortgage insurance if your LVR exceeds 80%. The premium for this mortgage insurance is then an additional cost for you as the home loan borrower.

However, if you have a bad credit rating, it may be difficult for you to obtain LMI from a third-party insurer. They will assess your credit history just like the lender does and may decide that you are a too high a credit risk. To overcome this potential problem, many non-conforming lenders charge a lender protection fee on their loans to compensate them for the increased risk of default. This is a one-off, up-front, non-refundable fee that is added to your home loan.