Anyone in advertising will tell you that the most effective marketing campaign is one that manages to attach an emotion to a product. Clothes, makeup and weight-loss products are marketed to women on the basis that the they will feel sexier, prettier and more attractive, ultimately leading to love. Cars, beer and aftershave are marketed to men on the basis that the they will be “cooler” and attract prettier women. Coca-Cola and McDonald’s show people laughing and having fun, suggesting they will feel happy when drinking a Coke or eating a Big Mac.
Similarly, we are taught through lending practices, parental suggestion, bank advertising and social pressure that a poor credit score suggests not only the loss of untold dollars due to higher interest rates on loans, but amazingly, that a high credit score makes you a “good” person and a low credit score makes you a “bad” person. Who hasn’t seen the silly television commercials that suggest you’ll be driving a junker car and working at the Renaissance Faire if you have a low credit score?
This identity-attachment we place on our credit score is so subtle that most people do not even realize it is affecting their financial decisions. I’ve actually met people who would love to buy a home but stop themselves with a fear-based rational such as, “I might lose my job and not be able to make my mortgage payments.” What does that actually mean? The deeper thread goes like this, “And if I miss my mortgage payments I may have to sell the house for less than I owe, or worse, foreclose, and that would hurt my credit score and that would make me a bad person.” People don’t actually put those words to their thoughts but that is the emotional journey they take that prevents them from buying a home.
We’re taught to treat our credit score as if it is part of our identity and guess what? It isn’t.
If you currently have a low credit score and find yourself suffering from the belief that you are a failure, that you are not good with money, or that you don’t deserve a loving spouse, great kids, a good job and “the pursuit of happiness” as much as everyone else does, then discard those thoughts right now. Having a bad credit score doesn’t make you a bad person any more than not wearing designer clothes or driving a sports car makes you unloveable. Your credit score is a product, just like everything else advertised to you, and it IS NOT connected to your identity.
What your credit score IS, is one piece of an overall financial picture that includes your income, your expenses, your investments, your assets, your business, your retirement savings and your debt. I’m suggesting that you look at that whole picture and not make financial decisions based solely on whether or not you might affect your credit score.
If you’re in debt, what that means is that there may be some financial choices available to you, some as small as skipping a credit card or mortgage payment, some as large as bankruptcy or home foreclosure, and inbetween options such as a short sale or debt settlement, that may be viable even if they will lower your credit score.
I know, that’s a bold statement, one that most people would disagree with on face value. To see what I mean, lets look a little deeper.
Your credit score is a vague, logarithmic calculation that assesses risk for lenders. A low credit score doesn’t mean the borrower can’t get a loan. People just out of bankruptcy court routinely receive credit card offers in the mail and we’ve all seen commercials for “low credit, no credit” car loans. More likely than having no access to credit, a low credit score simply means that the borrower will pay more for credit in the form of higher points and interest.
The banking industry would have you believe that, in addition to being a “bad” person, those points and interest on future loans will cost you SO MUCH money that you couldn’t possibly ever consider doing anything that would lower your credit score.
Let’s do the math on what a low credit score might actually cost. Say you are buying a $25,000 car, $5,000 down and $20,000 financed. If you have a “good” credit score, you might get a 5% loan. Over 60 months, the total interest paid will be $2645. With a median credit score you might get a 6% loan which would amount to $3199 in interst. A bad score with a 7% loan, $3761. The difference between the high score and the low score is $1100 in interest over 60 months, about $18 a month.
What about with a house? Say you want to buy a $500,000 home with 20% down (sorry, the 0-10% down days are over for awhile). So you’re financing $400,000 for 30 years. At 5% you’ll pay $373,000 in interest. (I know, brutal, right? Almost 100% interest over the course of the loan. Most people never consider what a home will actually cost by the time they are done paying it off, but that’s another article). At 7%, you’ll pay $558,000 in interest. A difference of $513 a month for 360 months.
The point is, IT’S NOT THAT BIG OF A DIFFERENCE. $18 a month on a $25,000 car. $513 a month on a $500,000 home. Yes, sure, $500 a month is not meaningless, but it’s not the, “oh my gosh I might hurt my credit score what am I going to do?” doomsday heart palpitations that so many people have when they even consider the notion of their credit score being under 700, or under 600.
If you already own your home and don’t intend to borrow money for any big ticket items in the near future, your credit score becomes even less of a factor in your overall financial picture.
When I had an 800 credit score, I was able to get over $200,000 in credit to pursue a business venture. When the business venture didn’t work out as planned and I couldn’t meet my monthly interest payments on my cards, a bankruptcy attorney told me about the process of negotiating settlements on credit card balances, to pay them off for less than the amount owed. My first question was, “how will that affect my credit score?”
In about six months of settlement negotiations, I reduced my credit card debt from $212,000 to $30,000 and I had $115,000 in debt written off. This reduced my credit score by about 200 points, to just over 600.
But I had $115,000 in debt written off, not to mention all the interest I would have paid on the $212,000 in debt at 18-29% over years of minimum payments. I couldn’t buy enough new cars in my lifetime at 2 or 3% higher interest to add up to more than I saved by settling my debt.
Had I been the homebuyer in the example above, I would have paid $185,000 more in interest over 30 years, compared to saving $115,000 in six months.
The point is, if you’re in debt, debt settlement may be a viable option that will save you more money in the long run that you’d save by having a higher credit score and paying a point or two lower on your next car loan.
I’m not suggesting that anyone abandon their credit score to the wind and adopt unsound financial habits. I am suggesting that in the conversations you have with your attorney, accountant, spouse and self, give credit score considerations their proper due. They are a single part of a large financial equation, not the end-all, absolute factor that your lenders and silly television commercials would have you believe.
