It is almost impossible to imagine life in today’s society without the option to borrow money. True, you can save your hard-earned cash to purchase that new car, the new furniture, or the most advanced television console, but what about a purchasing a house? Only a privileged few can afford to purchase a property without help from a lending institution. Even for those of us who are not fond of having to purchase items on credit, it is important for us to know about our credit history and how it works. Let’s then talk about our “good” credit history and what we can do to make it even better.
When you fill out an application for credit from a bank, store or credit card Company, your information is forwarded to a credit bureau to determine your credit worthiness and willingness to repay a debt. That is why it is so important. Credit history or credit report is a record of an individual’s or company’s past borrowing and repaying, including information about late payments and bankruptcy. The term “credit reputation” can either be used synonymous to credit history or to credit score. Your credit score has become even more important since it is usually the sole element used to choose the annual percentage rate, grace period and other contractual obligations of the credit card or loan.
Understand Your Credit Report and Credit Score
Credit Report/ Credit File
Along with the credit histories of millions of other people, your credit history is recorded in files maintained by at least one of Canada’s major credit-reporting agencies: Equifax Canada and TransUnion Canada. It is possible to obtain your credit file for free. Please consult the agencies’ websites in order to obtain more information. These files are called credit reports. A credit report is a “snapshot” of your credit history. It is one of the main tools lenders use to decide whether or not to give you credit.
Your credit file is created when you first borrow money or apply for credit. On a regular basis, companies that lend money or issue credit cards to you, including banks, finance companies, credit unions, retailers, send specific factual information related to the financial transactions they have with you to credit reporting agencies.
To see examples of what credit reports look like and to get more information on credit scores, visit the Financial Consumer Agency of Canada’s publication entitled Understanding Your Credit Report and Credit Score.
Here are Canada’s major credit-reporting agencies:
Consumers today are aware of the fact that it is exceptionally important to have an established credit history. Consumers need a credit history to apply for the various loans that are available through financial institutions, such as, credit cards, personal lines of credits, mortgages and others. The Understand Your Credit Report and Credit Score publication prepared by the Financial Consumer Agency of Canada (www.fcac-acfc.gc.ca) provides key information on how to obtain and understand your credit report and score, as well as what to do if you find errors on your credit report. It is a comprehensive guide.
Your credit score is a judgment about your financial health, at a specific point in time. It indicates the risk you represent for lenders, compared with other consumers.
There are many different ways to work out credit scores. The credit-reporting agencies Equifax and TransUnion use a scale from 300 to 900. High scores on this scale are good. The higher your score, the lower the risk for the lender. Lenders may also have their own ways of arriving at credit scores. In addition, lenders must decide on the lowest score you can have and still borrow money from them. They can also use your score to set the interest rate you will pay.
A credit history shows, in numbers, or score, your willingness to pay back your debts. The lower your score, the more likely a financial institution will make the assumption that problems may arise during your repayment period which might result in payment not being received from you, the borrower, to the financial institution, or the lender. To protect themselves, financial institutions will raise the interest rate when granting or providing you with a loan. The credit history scoring system may not be perfect, but it exists, and consumers must respect it and know how it works.
An individual score can vary from 300 to 900. But what does this number mean? And why the large range between the lowest number, 300, and the highest number, 900? An explanation will follow, however, we must emphasize that the analysis is derived from an approved mortgage loan point of view. The criteria for unsecured lines of credit, credit cards, and other forms of credit are different and more severe.
An explanation of each score range is provided below:
- 300 – 540 This individual falls very low on the range. It would indicate a poor credit history and a mortgage loan would be extremely difficult to obtain.
- 540 – 580 This score is also very low on the range. Major financial institutions, commonly referred to as class “A” lenders, would probably not offer any financial assistance. With a score in this range, the borrower might establish a loan with a class “B” lender or a smaller financial institution.
- 580 – 620 Falling within this range means the borrower has a high probability of obtaining a loan, even from a class “A” lender. Keep in mind, though, the down payment may be in excess of 15%.
- 620 – 650 Even though this score is not remarkable, most financial institutions would accept your application. It would be favourable for the borrower to have more than 5% of the down payment available.
- 650 – 680 Financial institutions would grant you a mortgage with a 5% down payment; however, 100% of the financing would not be available to you unless you were dealing with a class “B” lender.
- Over 680 This is a great score. A lender would be welcome with any down payment or even none at all, under one condition – the lender must be employed on a full time basis.
- Over 700 With a score reaching over 700, a lender could receive 100% of the financing, even for a self-employed individual, but the self-employed individual would need to prove a sizable annual income.
HOW TO CHECK YOUR CREDIT SCORE
Do you know your credit score? It is always better to know exactly where you stand before applying for a mortgage. In addition, consumers should check their credit history from time to time to determine where they stand. Sometimes mistakes happen, such as human error, which might result in an unfavourable score. As a consumer, it would be wise to rectify the issue before applying for a loan. There are two ways to do it – for free or for a fee. If you determine your credit score without utilizing an agency, it will not affect your credit score.
Without paying, consumers can request a copy of their debts and the methods used to repay them. For $23.95 plus applicable taxes, consumers can obtain a list of their debts, their credit score and an explanation of each, plus, recommendations on how to effectively manage your score more efficiently.
There are presently two credit bureaus in Canada – Equifax Credit Information Services Canada and Trans Union of Canada. Consumers may obtain their credit history at once, without cost, at the Credit Bureau Office, or by mailing a request to Equifax at P.O. Box 190, Postal Station Jean Talon, Montreal, PQ H1S 2Z2. If consumers would like a detailed account of their credit records, those records must be obtained through the Equifax or Trans Union website.
THE LETTER “R”
There is yet another index to describe the way consumers repay their debts – the letter “R”. This index can range from zero to nine. The letter “R” refers to Revolving Credit. Its credit consumers can completely repay and then use it again. Normally, it would be a line of credit or a credit card.
- Zero is used to indicate that the consumers request for credit was approved and the account has been opened, however, the consumer has not yet used it.
- R1 – Consumer repays debt on time and has not missed a payment
- R2 – There were not more than two payments which were late up to 60 days after the due date
- R3 – There were not more than three payments which were late up to 90 days after the due date
- R4 – There were not more than four payments which were late up to 120 days after the due date
- R5 – This index indicates that the consumer repays most payments after 120 days past the due date
- R6 – A regular payment plan as been established usually through a consolidation order or a consumer proposal
- R7 – Repossession has occurred (voluntary or involuntary)
- R8 or R9 – Indicates bad debt, unable to locate, placed in the hands of a collection agency, or skip
The letter “I” confirms that the consumer is utilizing a financing plan and is obligated to pay monthly installments. Examples of this would be purchasing a car or acquiring a student loan. If a consumer is positive that all is in good standing with repayment, it would be an excellent idea to check their credit history once a year to determine if there are any misunderstandings.
Consumers considering applying for a loan for a large sum of money, and has never checked their credit history or might be experiencing doubts, should pay for a detailed account of their credit record to ensure there will be no surprises during the borrowing process.
MAJOR FACTORS THAT AFFECT CREDIT SCORE
If consumers are already aware of their current credit score and would like to improve it as soon as possible, there are 5 major factors to consider which might affect their score.
- How have they managed their debts in the past? Maximal influential level – 35%.
- What is the value of their current debt? – 30%.
- How long is their credit history? – 15%.
- How many times have they asked, or applied, for credit? – 10%.
- Precisely, what loans do they current have? – 10%.
Yourpast dealing with credit
It is of special relevance how you have managed your debts – how many times you have missed or postponed your payments. If it happened once in a while, for any reason, and one of your payments was overdue, nothing terrible has occurred. Normally, major banks do not punish you for that mistake, but smaller financial institutions might report it to the credit bureau if the delay was more than 30 days. Thus, the missed or less than the minimum payment will pull your score down.
It is unfavourable to go into overdraft on your credit limit. Paying more than the minimum monthly payment is good, and paying the balance entirely, is excellent. Let’s imagine someone who has a credit card with the enticing condition of, “the more you spend the more points you earn.” One then uses the card a lot, spends most of the credit limit, receives their monthly statement, and pays off the balance. This is a good scenario, but it can be better. The credit card’s financial institution issues the statement on a certain date and provides an additional 20 days to pay. He or she pays off the balance but the information about their high balance, which is already sent to the credit bureau, lowers their credit score. I want to emphasize, it is nice that they pay off their entire balance as soon as they get the statement, and as a result, avoid interest and collecting points, but if they make the payment ahead of time, not waiting for the statement to arrive, that would be more efficient. The consumer would receive their points and the report to the credit bureau would be sent with zero balance.
How much debt you currently have
This is the second-ranked important factor. If every possible credit has been withdrawn and the balance is significant, it means you cannot manage your expenses. If in the situation where the bank increases your limit, you might spend more and increase your debt load. As a result, the bank can have a problem getting its money back. The credit bureau assesses you exactly the same way and decreases your score. Try to spend less than 75% of the credit limit, better yet, 50%. The worst scenario from the credit score point of view is to overdraft the limit and carry it on from month to month.
How old is your credit history
A credit history less than two years old is relatively young, but time works for you. For instance, if you want to buy a house without a down payment, you need a credit history of 2 years minimum (also applicable for self-employed individuals). Try to apply for credit as soon as possible to start your credit history. You may begin with a department store credit card, for instance, because it is easier to obtain. Additionally, you can open a secured credit card (in this case you have to deposit some money first). This method is very useful for newcomers.
How many requests for a credit you have made during a certain period of time
This factor is also very influential. All of us from time to time ask for a loan and each request potentially affects our credit history. You have to play this game knowing the rules. Requests for different kinds of credit at once (a credit card, line of credit, car financing, investment loan, etc.) have the most negative impact on your credit history. Asking for the same kind of credit at a few financial institutions during a short period of time is not as harmful as the previous one. Even If you apply for only one credit, but the interval between requests in different financial institutions is more than 2 weeks, it will reduce your credit score.
From which financial institutions do you have credit
Normally, we deal with different credit from distinct financial institutions, but their effect on our score is also different. Credit from major banks is preferred. If you have credit cards from department stores and do not use them, close the account.
Obviously, dealing with collection agencies, judgments, consumer proposals, and bankruptcy extremely affect credit history. If the situation is out of hand, it is better to find out the options you have and exercise those options rather than to just stop making the payments. It is often said that a consumer proposal is better than bankruptcy. Let’s consider two situations. Bankruptcy could take place for different reasons. It may happen only once and an individual will try in the future to overcome wrong doing and make every effort to recover his credit history. In 2 years, a bank will look at a person and say, “Yes, he had a problem, but he is doing well now. Let’s lend him the money at a higher interest rate.” A consumer proposal refers to the paying of the debt in equal installments over a certain period of time, usually 5 years. Thus, it will take this amount of time to a person to get rid of the debt. After finishing paying the whole balance, this individual has to wait an additional 2 years to be able to apply for a credit. Over all, it will take 7 years to start re-establishing their credit history.