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How much do you know about what makes up your credit score?
What you need to know about credit scores
Here at Canadian Budget, we believe in responsible credit use. Credit cards are not inherently bad! We just need to learn how to use them responsibly and they can provide a lot of benefits. They can give cash sign-up bonuses and cashback on purchases, or earn points for hotels, flights, and travel. What you need to know about credit scores is what makes up your score, so you can understand how to improve it if needed. We hope this article can help you utilize credit more effectively by understanding what makes up your credit score.
We all use credit so readily, and often don’t think twice about our credit scores, until it comes a time that we need to rely on it. When you are applying for a rental lease or a mortgage are one of the two most important times we need to rely on having a strong credit score.
What is a credit score?
Your credit score is basically a report card on your credit usage & habits. It tells lenders how risky of a client you may be. What you need to know about credit scores is that they can really help or hurt you in your financial life.
Have low credit? You may pay higher interest rates on loans, credit cards, and mortgages.
What about really bad credit? You may not be approved for these things at all.
Whether we like it or not, the world revolves around credit. So you better understand how to make sure your score improves or stays high to give yourself better options.
What makes up your score?
Your credit score is calculated on a range from 300 – 900, 900 being perfect. Credit scores of 660 and above are generally considered good.
Your credit score is made up of five different components
- Payment History
- Credit Utilization
- Length of History
- Account Mix
Let’s dive into each of these components for a deeper look at what they measure and how you can take steps to positively impact your score.
The first two make up 65% of your score, and are the most important.
35% of your total credit score comes from your Payment History.
Have you paid your bills on time, always paid at least the minimum, and never missed a payment? Then you are probably scoring pretty well on this component.
Late to pay, carry a balance, or miss payments? That can really have a negative effect on this measurement of the score.
Credit utilization accounts for 30% of the overall score. What this is measuring is how much of your available credit are you actually using. Are you maxing out your credit card constantly or are you only using a small portion of the total available credit?
Many sources recommend utilizing no more than 30% of your credit at any given time. If you have a $1,000 limit card – stick to using $300 or less at a time. A $10,000 limit card, use under $3,000. This is a general guideline, but if you want to keep it from impacting your scores – keeping the utilization low is key.
If you consistently have high levels of credit utilization (eg. maxing out your cards), it makes you look risky to lenders.
Length of History
How long have your credit accounts been active? This component accounts for 15% of your credit score. The length of your history shows lenders your track record. If it is long and strong, they are more confident to lend to you. Keep your longest-held cards open as long as possible (especially if they are no-fee cards – just pay the balance off and put it away in your documents drawer.).
When you are thinking about closing out any cards you may no longer be using, consider the history of the account first.
Are you capable when it comes to handling multiple forms of credit? Have you successfully managed a car loan, plus student loans, and credit cards at the same time? This is only worth 10% of the score, so small potatoes compared with the first few.
Inquiries to your credit score are worth about 10% of the total overall score. Creditors make inquiries to your credit score any time you apply to open a line of credit, apply for a credit product, or have a credit check done. These hard checks, as they are called, do have a small impact on your score.
Any time you check your own credit – this does not have an impact on your score.
Know your credit score
If you don’t know your score, you should definitely check to find out. As with anything – unless you are measuring, you don’t know if you need to improve it, or how.
Checking your credit can also be a way to verify if you have been a victim of fraud or identity theft, as you would be able to see any accounts opened in your name.
There are two major credit agencies that serve Canadians, which are Equifax and Transunion. You can contact them directly to request your score report. Transunion offers a monthly “Credit monitoring plan” which is paid and allows you to check your score. I have found in the past it’s a bit hard to get your free report from them.
Free and Quick Ways to Check your Credit Score in Canada
Equifax also offers a paid monitoring option – but they also now have a free score checking directly on their website which makes it much easier to check than it had been previously.
Borrowell was the first company in Canada to allow Canadians to check their credit score for free! They also offer a free personalized credit monitoring tool. You can use their tools to help improve your financial well-being. Sign up here to get your free credit score with Borrowell.
If you are one of my American readers- its quite easy to get your free report – you can check here: https://www.annualcreditreport.com/
I hope this helps you understand what makes up your credit score, and why responsible credit use is so important!
New To Canada with No Credit History?
- Always use less credit than your limit
- Always pay your bills on time
- Always pay the minimum
- Don’t carry a balance
Responsible credit use
Using credit responsibly means living within your means, staying within your budget, not maxing out your cards, and paying your card off in full each month, never carrying a balance. These practices will help you maintain good credit scores, be able to live debt-free , and grow your wealth.
Check out other topics like this in the Savings and Debt section of the blog!
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