Credit rating is a measure that allows banks and lending institutions to predict how capable you are of repaying your debt.
What Is a Credit Rating?
A credit rating is one of the most important tools banks and lending institutions have in their arsenal when determining whether a borrower is capable of repaying a loan.
Depending on the country you live in and the institution you are looking to borrow from, your credit rating might be comprised of different statistics. Importantly, credit ratings can be applied to companies as well. In essence, any entity that is looking to borrow money from a bank or other institutional lender has a credit rating.
What Is a Credit Rating Agency?
As credit ratings play an important role when banks decide whether to grant a loan. This practice has now turned into a business venture. Credit rating agencies are companies created to specifically analyze customers’ spendings and credit history to prepare their credit rating.
Some companies focus on evaluating credit scores for individuals, while others focus on assessing the credit rating of big companies, national banks
, and even countries.
How to Calculate A Credit Rating?
Personal credit scores are calculated based on a number of factors. Most importantly, credit rating agencies take into account your settled debt, your current outstanding debt, and how well you have been paying it, as well as your monthly income. Additionally, your homeowner status plays an important role. If you own your home but have a mortgage for it, this might affect your credit rating.
Types of Credit Rating
There can be a short-term credit rating, as well as a long-term credit rating, depending on the type of credit or loan you're looking to take. Your short-term credit rating
determines the likelihood of you getting credit for a smaller amount and fewer repayment installments. Your long-term credit rating estimates whether you'll be able to pay a bigger credit for a longer period of time.
The global credit rating industry, which evaluates the credit scores for governments, is predominantly ruled by three major companies - Moody's, S&P Global, and Fitch Ratings
. These three companies take into account the current economic situation in countries and evaluate their suitability to take on more national debt.
Importance of Credit Rating
Having a good credit rating is of utmost importance as your score determines the condition of your future loan.
If your credit rating is in good standing, you will be more likely to get a loan with favorable interest rates and APR
. Unfortunately, if your credit rating is not that good, you might be declined a loan or offered one with a significantly higher interest rate.