JoshIn applying for a financial product of any kind – be it a loan, mortgage or credit card – you will have encountered the words ‘credit score’. These words and the metrics they describe are crucial arbiters of success or failure when it comes to such applications, but their existence and form are often misunderstood by the average borrower. Credit scores are discerned by credit reference agencies – but what are they? And how do they operate?
What are Credit Reference Agencies?
Credit reference agencies, or CRAs, are independent organisations which use financial and personal information to create credit reports for banks and lenders. These credit reports effectively ascertain the risk an individual might pose to a bank or lender if they were to be accepted for a loan, based on a variety of metrics and criteria.
In the UK, there are three key CRAs that define the vast majority of credit reporting done for banks and other lenders. They are Experian, Equifax and TransUnion; all three are licensed and overseen by the Financial Conduct Authority, and beholden to strict regulation in order to protect the data they secure and the reports they produce (more on which later).
Credit Reports and Scoring
How, then, do CRAs put their credit reports together? Each one has its own proprietary methods for calculating their own credit score, but the principles – and many of the data sets used – remain the same. For starters, basic information relating to the age, employment status and residential status of a given applicant is taken into account.
A major part of any one credit report is that of an individual’s credit history. This refers to their history with taking out loans or entering into debt, and their history of paying – or failing to pay – their way out. The regularity with which utilities and other bills are paid can also be a factor here.
Lending and Access to Credit
The results of a credit report are instrumental to the decision a lender might take regarding whether to proceed with a loan or mortgage application. A history of difficulties paying bills and meeting debt obligations builds a negative financial picture of a given applicant, indicating a potential risk to the lender in terms of losing capital or spending additional money chasing repayments.
This is not to say that individuals with poor credit history are unable to access credit. Secured loans, which enable borrowers to borrow against an asset like their home, are often friendly to those with bad credit; this is because the risk to the lender is reduced, where failure to meet payment obligations results in forfeiture of the asset.
Privacy, Security and Consumer Rights
Naturally, the handling of personal and sensitive financial information is a serious responsibility in and of itself. CRAs have stringent protocols to follow regarding the guarding of this information, with GDPR law governing much of their responsibilities to the individuals they profile. Consumer rights laws also enable individuals to approach CRAs for information on their credit score and history for free, though there are paid third-party services that offer additional information and support.