The High Cost of Low Credit Scores

By AnnaMaria Andriotis

Record-low interest rates are useless to the millions of borrowers with less-than-perfect credit scores. They end up paying a high premium when applying for everything from credit cards to home mortgages.

Despite the Federal Reserve’s efforts to encourage more lending and home buying, millions of people have been shut out from borrowing, according to a report today by The Wall Street Journal. Consumers with high credit scores accounted for nearly 90% of all new mortgages last year.

This comes at a time when the number of Americans with poor credit is growing. Most lenders check borrowers’ FICO credit score, which ranges from 300 to 850, to determine whether to approve them for financing and at what terms. In general, borrowers with a FICO below 720 will end up with higher interest rates and could have a harder time getting a loan. Today, nearly a third of consumers have a FICO score in the 550 to 699 range – the highest since 2006, according to April data from FICO. And nearly half of consumers have a FICO score that’s lower than 700.

• Audio: AnnaMaria Andriotis stopped by The Daily Wrap from The Wall Street Journal to talk about the high cost of low credit scores

Lenders say the premium for poor credit is necessary to manage their exposure to risk, with requirements varying widely by the type of loan. For those with poor scores, credit cards and car loans are the easiest to access, but the premiums may be very high. Credit card issuers charge at least 17% interest rates on average for borrowers with credit scores below 720, according to CardHub.com, a credit-card comparison web site. On car loans, average interest rates run up to 13% for borrowers with lackluster credit scores, according to credit bureau Experian.

Mortgages remain hardest to get: Few lenders are giving mortgages to borrowers with scores below 680, says John Ulzheimer, president of consumer education at SmartCredit.com, a credit-monitoring site. While lending standards have eased since 2008, the best rates – or even the good ones – are available only to those with perfect or near-perfect scores, says Ulzheimer.

Here are the three major loans impacted by poor credit.