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What is a credit rating?

What does credit rating really mean and it's difference from a credit score.

08 November 2022Lloyd Smith 5 min read
Credit rating, credit score, credit report

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Performing a credit rating check is one of the first actions every credit provider undertakes as soon as they receive an application for a new line of credit or to extend an existing line of credit.

Credit rating is an objective assessment of the creditworthiness of any borrower -- whether an individual, a corporate, or even a sovereign government. It indicates how likely a borrower is to repay a loan without defaulting.

Here’s everything you need to know about credit rating and credit score checks in Australia.

Credit rating is all about analysing the financial risks associated with an individual or a business.

In the context of individuals, credit rating is often denoted by the term ‘credit score’. Credit ratings or credit scores are awarded by credit rating agencies based on their credit history. When a credit provider receives an application for any borrowing, they perform a credit check and obtain the credit ratings from such agencies.

Credit reporting bodies follow a credit rating scale while assigning your credit score. The higher your rating, the more trustworthy you are as a borrower.

There is no universal ideal credit rating, as your score depends on several factors. But a general rule of thumb is -- The higher the credit rating the better. What you should be aiming for also depends on the type of product you want.

  • Lenders always conduct credit checks while assessing any credit application and also share information with credit rating agencies that forms part of your credit history. Having a high credit rating score improves your chances of getting approved for any credit as it indicates that you repay loans on time and manage your debts well.

  • Credit rating influences the decision of lenders to offer you better terms. For instance, a lender is more likely to agree to a lower interest rate if the borrower has an above-average credit rating.

  • Credit rating helps the borrower determine which lender is best suited for their needs. A lender offering a large amount of loan at a low interest rate to someone who has an extremely high credit rating is unlikely to lend at the same conditions to someone with a poor or below-average rating.

A credit score is a three-digit number that represents the creditworthiness of a borrower. It indicates the likelihood of borrowers repaying debt. Lenders use credit scores as part of assessing credit applications from potential borrowers.

The score is calculated based on your credit history and takes into account details such as past borrowed amount, current credit products, repayment history, payment defaults, bankruptcies, and frequency of applying for additional credit.

Credit rating agencies collect necessary information from both credit providers and the public domain and then use a credit scoring algorithm to arrive at the credit rating score. Since different credit reporting agencies in Australia rely on different models, there is no single score that can be tagged as a good credit score or a bad credit score. It depends on which credit agency has given you the score.

For instance, according to Equifax that rates on a credit rating scale of 1200, a score between 622 – 725 is considered an average score. However, Illion that rates on a scale of 1000, scores between 500 – 699 are considered average.

Given that different agencies employ different credit rating scales to arrive at your credit score, does it have any impact on your creditworthiness?

No -- lenders are aware that different algorithms are used to work out the score. In fact, it is not uncommon for lenders to obtain the credit rating scores of the same applicant from various agencies before deciding on their application.

While the terms are often used interchangeably, technically, there is a difference between credit rating and credit score. Sometimes, credit reporting bodies may use credit rating to determine the creditworthiness of a sovereign or a corporate and credit score to indicate the creditworthiness of an individual.

For instance, as per Standard and Poor, Australia’s credit rating stands at AAA with a stable outlook, which is the highest possible rating and reflects the strong economic and fiscal policies of the nation.

Credit rating is usually expressed in a letter format such as Triple-A or Triple D rating. Credit scores, on the other hand, is a three-digit numeric representation that is derived through credit scoring algorithms.

As per Australian laws, every credit reporting body should give you a copy of your credit report for free once every three months. You are also entitled to a free copy in the event your credit application has been denied within the past 90 days or your credit-related personal information has been corrected recently.

Alternatively, if you want a free credit report in Australia, you can also sign up with an online credit score provider like ClearScore to get your credit score directly emailed to you.

Number of credit history checks made

Whenever you apply for new credit, such as a credit card or a loan, the credit provider requests credit reporting agencies to check your credit report. Such credit history checks are considered a hard inquiry by credit rating agencies.

When you approach multiple lenders for credit, and there are too many credit history checks made in a short span of time, it can directly impact your credit score. It can also give potential lenders an impression that you cannot handle credit well or may have difficulties in paying back debt.

Repayment period

How promptly you repay your debts has a massive bearing on your credit score rating. If you default in repaying a loan or a credit card bill or pay later than the scheduled repayment date, it will impact your score negatively. In fact, the longer your bills are outstanding, the fiercer the impact.

Credit mix

For a healthy credit score rating, you need a healthy mix of secured and unsecured debt. When you borrow different types of credit and repay them on time, it assures a potential lender that you are confident about handling debts in general. Therefore, if you only have a single type of credit in your portfolio, your credit score may not be very high.

Always pay credit card bills and instalments on time

Delayed payments impact your score adversely. If payments remain sixty days overdue, they are flagged as default and get included in your credit report.

Make sure to have a reminder system so that you never miss a payment.

Don’t use the entire credit limit

If you have a credit card with a set limit, make sure you never max out your entire limit. You should always keep your credit utilisation lower than the credit limit available as it shows the lenders that you can manage your credit well.

Don’t apply for new credit unnecessarily

If you already have a low credit rating or are still paying off other debts, it is a bad idea to apply for more credit. Not only will it result in more hard inquiries showing up in your credit report and lower your existing score, but you will also get flagged as a risky borrower. Too many credit applications may indicate that you are in desperate need of credit or you cannot manage your finances well.

The good news is that credit ratings do not remain static -- every repayment and every new credit impacts your credit score.

So even if you have a poor credit score at present, you can always improve it. All you need to do is remain vigilant and take the right steps toward improving your credit history.

Access your free credit report with ClearScore to check your credit rating today.

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Written by Lloyd Smith

General Manager AU

Lloyd spreads the word about how awesome ClearScore is.