Your credit score is an important tool. A good score can make it easier to get the best interest rates on things like car loans, mortgages, and lines of credit. A bad one might mean you need to accept a higher interest rate, or even that you may not be approved for a loan or credit card at all. So how do you improve your credit score, and what does a good score look like? Read on to find out.
Factors that Affect Your Credit Score
According to the Government of Canada’s website, there are five main factors that contribute to your overall credit score.
Your Payment History
Do you sometimes miss deadlines on your bills, or not pay them in full? If so, this can have a major drag on your credit score. Your credit profile contains records of any and all missed debt payments going back 7 years, and even one ding on your record can reduce your overall credit score.
Try your very best to pay every bill on-time and in full. Even if you’ve missed payments in the past, over time, you will start to see an improvement in your score.
Your Usage Ratio
Regardless of how much debt you have available to you, a higher usage ratio acts as a drag on your credit score. Anything over 35% of the total debt you could take on makes you more risky to lend to in lenders’ eyes.
In other words, all other things equal, someone with $5,000 in debt on a credit card and line of credit worth a combined $25,000 (a debt usage ratio of 20%) is viewed as less risky than someone with $400 in debt on a credit card with a limit of $1,000 (a 40% usage ratio).
Now, does this mean you should just automatically accept that “complimentary” increase to your credit card’s limit that your lender offered you?
Maybe, maybe not.
It’s true that accepting a higher credit limit would mean you could borrow more without affecting your credit score… but if you’re the type who can be prone to abusing debt to buy things other than investments, you’re better off taking a pass on the offer. It’s just too tempting… and your lender knows it.
Length of Your Credit History
The longer you go with a sterling track record of paying your bills, the more data lenders have to see that you’re responsible with your debt. The tricky part here is that, say you cancel an old credit card to open a new one – that new card counts as new credit, and you’ll lose the benefit of the track record you had with your old card.
Now, this might be worth the hit, if it means you can cancel an old card that had a high fee or useless benefits. But if you had a card that had no annual fee, you may want to consider keeping it open, and using it occasionally, in order to preserve your credit score while you build a track record with your new card.
After you’ve had your new card for some time (at least a year or two), you can go ahead and cancel the old one!
Number of Credit Checks on Your Record
Like missed bill payments, credit checks have a minor negative effect when they show up on your credit report. Not all credit checks are created equally though; there are two types.
“Soft” credit checks are ones that prospective lenders won’t see when they look at your credit report. They don’t affect your credit score in any way. These are most common for things like requesting your own credit report, for some job applications, and for businesses that are updating their records of you.
“Hard” credit checks are the ones that show up to lenders and, therefore, ding your score. These checks happen when you apply for new debt, and also when you submit a rental application.
Individual hard checks on your record don’t have a major impact to your credit score, but too many within a short span of time are a major red flag. It signals to lenders that you might be urgently looking for credit (maybe because you’re desperate for money, whether that’s true or not), or that you might be trying to live beyond your means.
Different Types of Debt Instruments You Have
If you only have one type of debt, like a credit card, you may have a hard time getting your credit score over a certain ceiling. The more different types of debt you have – like a credit card, a car loan, and a line of credit – the more favourable you look to lenders.
Why is this the case? Honestly, I don’t know. I don’t see how someone with more debt could look less risky than someone with less debt, other than perhaps maybe the person with more debt and a clean record has more proof that they can manage debt responsibly. Your guess is as good as mine. What I do know is that more types of debt is better for your score!
What is a Good Credit Score?
Your credit score is a 3-digit number that usually ranges between 300 and 900. 300 is an awful score, as is any score below 560 or so. If you’re in this category, lenders may choose not to lend to you on that basis, until you improve your score.
If you have a score between 560 and 660, you might be able to get a loan, but you’ll likely have trouble getting the best available rate.
Credit scores above 660 are considered “good,” scores above 725 are “very good”, and scores above 760 are considered “excellent.” You’ll be able to command the very best interest rates and loan terms with a credit score in that category.
Wrapping it Up
If your credit score is less than sterling, don’t worry; it’s always possible to rebuild your credit and slowly but surely see your score climb back up. Some lenders even offer products that are tailored toward helping you do exactly that.
They may have very low credit limits (say, $500), or might be secured against an asset you own (such as your car), but these tools can help you build your score up to a point where you’ll be able to apply to a better product.
Either way, your credit score is an important tool in managing your finances, and you should be checking it at least once a year. Most financial institutions now offer the ability to check your score for free, so there’s no excuse not to take advantage of it!
