How to Improve Poor or Nonexistent Credit by Paying Your Bills on Time
(PRWEB) October 24, 2011
While extending credit to the unbanked and underbanked isn’t always desirable for financial institutions, there’s a definite need for short-term, small-dollar credit. Many consumers experience temporary gaps in income and need to cover basic living expenses care rent, utilities, and transportation costs. An April 2010 study[1] conducted by the Center for Financial Services Information (CFSI) found that:
There are 30 million unbanked and underbanked households in the United States.
33% of unbanked and underbanked U.S. households borrow to pay for small-dollar, short-name financial take.
Almost 40% of those borrowing do it to pay bills or cover basic living expenses.
16% of underbanked individuals obtained payday loans in the last year.
45% of unbanked and underbanked borrowers would prefer to conduct their financial transactions with a bank or credit union.
So how do the unbanked and underbanked construct credit, wealth, and eventually financial prosperity? The answer may involve alternative credit scores.
What is an Alternative Credit Score?
Designed to help telecommunication providers, retailers, and other sales-oriented companies issue credit to the underbanked, alternative data providers care L2C Inc. and PRBC Credit Reporting Agency have been around for about a decade. These companies furnished alternative credit reports that incorporate information from sources not typically considered by the big three credit reporting agencies—Equifax, Experian, and TransUnion. Sources of information comprise mobile phone service history, utility charged payments, payday loan payments, property recording, and employment information.
Originally, big lenders avoid these reports, as underbanked consumers were not a target market for many banks and the predictability of this alternative information was largely untested.
Why Traditional Banks Are Using Alternative Credit Scores More Than Ever
Many in the financial services industry now realize that the application of alternative credit data extends beyond underbanked consumers. “As we came out of the downturn—and even in the downturn—what they realized is that the data could help them across their entire book of business, and then it became a much bigger prioritization[2],” said Mike Mondelli, founder and chief executive of L2C.
The recent financial crisis also highlighted an over reliance on traditional credit scores. Many financial lending institutions are realizing the usefulness of alternative data as a supplement to traditional credit scores. According to John Ulzheimer, president of consumer education at SmartCredit.com, “There’s definitely more of an appetite for what I would define as untraditional credit report information. Lenders realized that solely depending on traditional credit file information only goes so far[2].”
“As an industry we believe we’ve stirred away from the testing and the skepticism stage,” said Mondelli, “We’re firmly in early adoption, and it looks like we’re going to be mainstream[2].” The incorporation of alternative credit data into the databases of the big three attributing reporting agencies helps validate this belief. Equifax, Experian, and TransUnion have all added new information sources into their databases—including rental, employment, and income-verification data. Equifax and TransUnion have also formed strategic partnerships with L2C to provide its data as an add-on service to clients. Furthermore, according to Mondelli, 15 of the exceed 20 consumer lenders are either using L2C’s data or are in the pilot phase[2].
Lenders are mainly using alternative data as a supplement to traditional scores to determine the credit worthiness of borrowers outside of the “super prime” category—those with a FICO hit of 780 or less. This allows them to revisit consumer segments that they exited during the downturn. With more information at their disposal, banks and credit unions can expand their pool of eligible borrowers without assuming greater credit risk.
Your Action Plan for Improving Poor Credit
With alternative credit scores playing a larger part in how lending institutions determine credit worthiness, here are some steps you can take to improve your credit rating:
1. Make a commitment to pay your bills on time. As alternative credit scores become more of a factor in your credit score, paying bills on time becomes a crucial aspect of credit building. Unless you’re willing to make this commitment and stick to it, the next two suggestions won’t help.
2. Contact your mobile phone service provider, utility companies, and any other service providers to find out if they report information to alternative credit bureaus. Many service providers automatically report this information, while others offer it only as an option. For instance, many payday loan providers give their borrowers the option of having their payday loan histories reported to alternative credit bureaus, but borrowers must first request this service. For the sake of building credit, you’ll want to have as many billers reporting to alternative credit bureaus as possible.
3. If you need funds to help cover short-term gaps in income, borrow wisely.
a. Only borrow in emergency situations.
b. Whenever possible, borrow money from friends or family, and pay them back as soon as possible. Even if you have to pay them back with interest, it will often be much less expensive than a traditional loan. And if you pay them back promptly, they will be more willing to loan to you in the future.
c. If you need to borrow a somewhat substantial amount of money, and your family and friends can’t help you, consider taking out a personal loan or borrowing against your car or house. Of course, you’ll want to make sure you’ll be able to pay back the loan before borrowing.
d. If you only need a small amount of cash to make it until your next paycheck, you might consider payday loans. Unlike most banks, payday lenders clearly state the cost of your loan transaction upfront. Payday loans don’t require a credit check, and they’re unsecured—so you won’t risk losing your personal property. Plus, the simple application process means you’ll receive your cash in as little as one business day—something you can’t get from most traditional lenders.
Works Cited:
[1] How Should We Serve the Short-Term Credit Needs of Low-Income Consumers? Center for Financial Services Innovation, Apr. 2010. Web. 20 June 2011. http://www.l2cinc.com/assets/files/PDF/InBrief_Credit_Symposium_Apr2010.pdf.
[2] Lepro, Sara. “Use Of Alternative Credit Scoring Is Growing.” Collections & Credit Risk. PaymentsSource, 2 June 2011. Web. 20 June 2011. http://www.collectionscreditrisk.com/news/use-of-alternative-credit-scoring-growing-3006462-1.html.
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