Many South Africans who find themselves in financial trouble have to rely on credit to make ends meet, even when they cannot afford the credit repayments.
According to TransUnion data, more South Africans took out new loans in the past quarter, and the amounts they owed increased by 8.1% compared to the previous year.
Rynhardt de Lange, director and head of legal at Milaw Legal, said that this increase in debt has resulted in more people falling behind on their payments, which in turn can seriously harm their credit scores.
A poor credit score can bring about significant challenges, such as
– obstacles in securing loans with elevated interest rates
– restricted choices for renting
– higher insurance expenses,
– and even potential hurdles in securing specific job opportunities.
What is a credit score?
According to Samir Ghrib, Chief Risk Officer at RCS, a credit score is a direct reflection of how people manage their debt.
“Because credit scores are affected by a number of variables and financial metrics, they tend to fluctuate over the course of a lifetime,” Ghrib said.
De Lange shares the leading causes of low credit scores among South Africans:
New to credit market
According to the latest Eighty20 Credit Stress Report, around 665,000 people joined the credit market this quarter, bringing in a total of R7.9 billion in new loans for the year. While, on average, 115,000 South Africans exit debt review annually.
When those people return to the credit market, they often find themselves starting with a credit score of zero. This restart is a common factor that contributes to people having low credit scores.
De Lange recommends that people start small by taking on affordable amounts of short-term credit, like retail store accounts or credit cards to build a well-managed credit record.
“If managed responsibly, these accounts can be beneficial in improving one's credit score,” De Lange said.
High credit card balances
According to de Lange, another significant factor contributing to low credit scores is the presence of high credit balances.
Your credit utilisation ratio, which represents the portion of your credit limit that you use, has a lot of influence over your credit score. Experts recommend that people keep this ratio below 30% by not exceeding 30% of their credit limit on any card.
“The good news is that you have the power to influence your credit score directly. For instance, when you pay off a credit card with a substantial balance, your credit score can see an improvement once the payment gets reported to the credit bureaus,” said de Lange.
Many South Africans also struggle to keep up with their debt repayments every month for a number of reasons.
Findings from the NedFinHealth Monitor study showed that no matter their income levels, 42% of the people surveyed are struggling to manage their debt.
De Lange said that a person’s track record of timeously paying for their expenses plays a pivotal role in how credit bureaus assess their credit score.
Even a single payment that's 30 days or more overdue can significantly harm your credit rating, and those missed payments can linger on your credit report for as long as seven years.
Recent credit applications
New credit applications have a notable impact on declining credit scores. Every time you apply for a new credit card or loan, it can cause a slight dip in your credit score, whether you accept the offered credit or not.
“The reason behind this lies in the perception of multiple credit applications as a higher risk, indicating a lower likelihood of complying with repayment terms, ultimately resulting in a diminished credit score," de Lange said.
A non-diverse credit profile
De Lange said that a lack of diversity in credit profiles is another reason South Africans credit scores stay low.
If most of a person’s credit history revolves around a single type of credit, it could be detrimental to their credit score.
“For instance, revolving credit accounts, like credit cards, involve varying balances each month, whereas installment credit accounts, such as car loans, mortgages, or student loans, feature fixed payments and structured terms,” said de Lange.