Rejected? Rule Demands an Explanation

Last Updated Jul 15, 2011 11:43 AM EDT

Ever get rejected for a loan and wonder why? Starting next week, lenders will be required to explain -- and even tell you if you didn't get the best available rate.

A new regulation, which goes into effect July 21, is aimed at helping consumers understand the complex and still-mysterious world of credit scoring. The rule says that any lender that charges more or rejects your application because it deems your credit substandard will have to tell you why. If you were submarined by a sub-par credit score, you'll get a copy of the score your lender used and an explanation of what dragged it down.

"Credit scores affect so much of our daily lives, yet many people overlook them," says Bill Hardekopf, CEO of LowCards.com and author of The Credit Card Guidebook. "This should be an opportunity for people to understand the changes they need to make in order to improve their credit score."

But if you're wise, you won't wait to get rejected before you work on boosting your score, says Hardekopf. Here are five easy tips to help improve your score:

Pay promptly: There's little mystery to the biggest component of your credit score -- it's all about on-time payments. Roughly one-third of your score is based on whether you always pay your bills on time vs. sometimes miss a payment. The more on-time payments you have, the less impact of the rare 30-day late payment. But if you misstep more than a few times, your credit score is likely to plummet.

Know your limits: Another big piece of the credit score looks at how much you're borrowing versus the amount of credit available to you. If you have "available credit" of $25,000 on your credit cards, but never have more than a $2,500 balance, your debt-to-available credit ratio is 10%. That's good. As your debt-to-available credit ratio rises, your score drops. Know your limits and stay well below them.

Build a history: Your mother may know that you were the most responsible third-grader in history, never overspending your allowance and that you've been the same thrifty person ever since. But the only thing creditors know is what's on your credit report. That report is going to list your credit cards, student loans, mortgages, auto loans and the like. The longer you've been borrowing (and paying promptly), the better the "history" component of your score.

Don't over-apply: Applying for lots of credit all at once is a red flag for lenders. One application is no big deal, but if you open instant credit accounts at every store that you visit while holiday shopping -- even if it made perfect sense because they offered discounts for applying -- it could damage your score. The amount of damage will vary based on how many new cards you get and how many you already had.

Fix errors: Again, your credit score is based on what's on your credit report. That's why you need to know if your report includes errors -- accounts you once had that have since been closed or even accounts that never belonged to you. Get a free copy of your report by calling 1-877-322-8228 or by going to AnnualCreditReport.com. If there are errors, you can fix them simply by just writing in the margins what's wrong and sending the report back. The credit bureau will provide a corrected version once the errors are fixed. But be sure to keep a copy for your records, just in case they lose your fixes or aren't prompt about making the corrections.

Kathy Kristof is the author of Investing 101
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