Dubai: Retiring early isn’t supposed to directly impact your credit score, nor should it affect your long-standing credit history due to the sudden absence of an income or employment status. But in reality, a few changes to your lifestyle or fiscal decisions can led to certain implications. Here’s how.
“Presuming you’re able to manage your bills and budget after leaving the workforce, you should be able to maintain a good credit score,” said Melanie Aguste, a financial planner based in Abu Dhabi. “But while retiring won’t directly hurt your credit score, it could impact your ability to borrow.
“This is because your income is likely lower in retirement than it was while you were working. When lenders evaluate borrowers, they look at several factors including your ‘debt-to-income’ ratio. This helps them decide if your income will be enough to pay back what you are borrowing.”
This number is one way lenders measure your ability to manage the monthly payments to repay the money you plan to borrow. What do lenders consider a good debt-to-income ratio? A general rule of thumb is to keep your overall debt-to-income ratio at or below 40 per cent.
Why your credit score matters in retirement
Aguste further explained that if you have outstanding debt and are receiving a smaller amount of income in retirement, your debt to income ratio will be much smaller than it was before leaving the workforce. This can further affect your borrowing power.
When retirement income drops, so does your borrowing power..
“Retirees commonly assume once they retire that their borrowing days are over. However, this is far from the case for a good amount of retirees worldwide,” added Aguste, who went on to explain why that is the case.
“Some retirees are still making large purchases in retirement, which may include a second home or a new car. This is why your credit score matters even in retirement as your credit score will help you to be eligible for loans and several other financial moves.”
Retirees commonly assume once they retire that their borrowing days are over. However, this is far from the case
When retirement income drops, so does your debt paying ability..
Similarly, if you plan on entering retirement with outstanding credit card debt, keep in mind that as it’s common for credit companies to monitor credit scores for their existing clients, your credit card company may increase your interest rate if your credit score drops.
The company also reserves the right to decrease your borrowing limit if your credit score declines significantly. In situations where your account gets flagged, they may even close your account. That’s why it’s important to maintain a high credit score to stay in favour with your credit card companies.
When retirement income drops, your premiums can rise..
“When insurance companies such as your auto or homeowner’s insurance providers evaluate potential customers, they take your credit score into account,” explained Pam Bagley, an insurance analyst based in Dubai.
“They may use information from your credit report to decide what your rate is or if they will offer you coverage. The lower your premiums, the more money you’ll have to spend during retirement. So, keep your premiums as low as possible by maintaining a good credit score in retirement.”
Keep debt-to-income ratio steady: As your payment history roughly accounts for 35 per cent of your score, pay on time so your debt-to-income ratio won’t be hurt drastically even if retirement results in lower income. Financial planners evaluate that a ratio below 40 per cent should be manageable if you’ve been focused on reducing your debt to a level you comfortably live with for your retirement.
Keep your credit card balances low: A good credit limit, also referred to as ‘utilisation rate’, is less than 30 per cent of your credit limit. If you have a credit card with a Dh1,000 limit, your balance should be less than Dh300. Paying off your balance each month is the best strategy of all, as you’ll maintain an excellent utilisation rate (zero per cent is ideal), and you’ll incur no interest charges.
While maintaining good credit through your retirement is an effective retirement strategy, which will likely not only save you money in the long run but also give you more options for your retirement, it’s easier said than done.
Retirement may pose a few challenges to maintaining a healthy credit score, primarily because of a drop in income or your employment status soon after you retire. So while retiring doesn’t automatically affect your overall credit score, how you manage your money once retired can.
While credit reports don’t explicitly include current employment information, they do track and monitor your history of borrowing and repayment with home or car loans, and credit cards, all of which are included in the calculation of your score.
As a retiree, when it comes to your borrowing capacity, although banks will want to see a current source of income, they’ll also consider your history of repayment. Additionally, when retiring, the length of your credit history is a plus, given your ability to have established a lengthy history.