What Is a Credit Score? (and how Bankruptcy can help!)

As if we didn't have enough things to worry about, it seems like every day another TV commercial, pop-up ad or credit card offer is telling you to worry about your credit score and pay someone to look at it.  Unfortunately, these messages, while pesky, are partly right; credit scores are now an important tool in the arsenal of an informed consumer.  Based on the way these offers are phrased, anyone might think that simply looking at your credit score is going to somehow fix it. Your credit score is information--important information, it's true. But once you have it, what will you do with it?

If you're considering bankruptcy, chances are your credit score is hurting. You've probably heard that your credit score will be negatively affected by declaring bankruptcy, and this may be holding you back from taking an important step to solving your debt problem. In the long term, bankruptcy will actually help your credit score--but before you can understand why, there are some facts you should know about credit scores.

A credit score is essentially a report card on your debt history. Much like a report card, it will not encapsulate you, but companies will use it as short-hand to evaluate your "creditworthiness"-- how risky it will be to lend to you. Credit bureaus (companies that collect information about consumers) calculate your score based on information from your debt history. The exact formula they use is a trade secret, but the factors in rough order of importance are:

• Your payment history: missed payments is the top factor 
• Your outstanding debts: the ratio of your debt to your credit card maximums as well as the total amount you owe
• How long you've had credit: the longer, the better
• New credit: can hurt you
• Types of credit you already have: certain kinds of credit are more favored than others

Thus, if you are falling behind on payments, you are doing serious damage to your credit score, and companies will be less willing to lend to you, or impose more stringent rules on the debt (for example, higher interest rates).  If you have too many credit accounts, or owe too much on each account relative to the limit, this will also weigh heavily against your score. When you apply for new credit, you generally will authorize the creditor to access your report; if you have too many inquiries, this can also reflect badly on your score.

Americans are entitled to one free credit report every 12 months, but that is different from a credit score--usually the companies that provide the free credit report will offer to sell you the score for a fee. Watch out for this hook; looking at a credit report is important because it may reveal that the companies have incorrect information about you, but you many not gain much more from looking at your credit score. The report is free once a year, but the score will cost you. You're also entitled to a free report (but not a score) within 60 days of being denied credit or favorable credit terms.

The good news is that a credit score is not set in stone--in fact, it changes all the time. The bad news is that if you're missing payments or opening new credit to pay for old credit, a good score can quickly become a bad score. The lower your score dips, the higher your interest rates will climb--even on accounts you already have! Thus, the more your debt problems increase the more money you're paying out in interest, which long term is a terrible bet. Because scores change, bankruptcy can help your credit score in the long term by allowing you to cut off the debt default cycle.

If your debt is unmanageable now, your score is already beyond your ability to repair. Bankruptcy will help by wiping the slate clean and allowing you to rebuild your credit from the ground up. It will take time and effort on your part, but properly rebuilding your credit after a bankruptcy can be the key to future financial success. Contact a local bankruptcy attorney today and find out the truth about bankruptcy and your credit score. Serving North Carolina residents, the Law Offices of John T. Orcutt have convenient offices in Raleigh, Durham, Fayetteville and Wilson.