It’s easy to get confused about credit scores—even more so when figuring out what they mean for your finances.
Your credit score is a 3-digit number calculated based on your credit report’s financial information. When applying for a loan, your credit score is one of the first things lenders will look at. That’s because lenders are one of the critical audiences for credit scores, and they substantially impact whether you get a loan and how much it will cost you in interest. Whether you want to purchase a home or a new car, you get to know your credit score. It’s basically a numerical representation of how likely you are to pay back the money you borrow—and if you don’t pay back what you owe, it can hurt your credit score. Below are some questions to better understand credit scores:
- Where does the number come from?
- What drives them to grow or fall?
- What factors influence it?
- How can I improve my score?
You will always have your credit score, so why not take some time to accumulate some valuable knowledge about it? Read on to learn more about this essential financial metric:
- Equifax and TransUnion are the two popular credit reporting agencies in Canada. Your credit score may differ between the two. A lender may contact one or both agencies when an applicant asks for credit.
- Your credit score is analyzed using records from your credit report, which you can acquire for free from Equifax and TransUnion once a year. Several banks, credit unions, and other financial services companies will give you your credit score for free.
- It ranges between 300 and 900, with an average score of 650.
- Credit scores are utilized for much more than just borrowing money; insurance companies, cell phone providers, car leasing companies, landlords, and employers may all use them to make decisions.
- The length of your credit history, credit consumption (how much of your credit limit you have used), the mix/types of credit you have, the frequency with which you apply for credit, and your payment history all impact your credit score.
- Mistakes and omissions are common, so double-check the information on your credit report. Every organization has a procedure in place for reporting and resolving issues.
- Credit scores of 700 or more are considered “good” since they increase the chance of loan acceptance, give higher borrowing limits, lower or “preferred” interest rates, and lower insurance premiums.
- Credit scores are constantly being reviewed and adjusted. If you have made payout mistakes already, the repercussions are not everlasting! Using credit correctly may raise/rebuild your credit score.
- Reviewing your credit score is good since it will help you spot problems, measure progress, and detect fraud. That is a “soft” inquiry that will not affect your score.
- Sustain on-time payments, pay the total amount owing, use 35% or less of available credit, have a variety of alternatives, and use new credit wisely to improve your credit rating.
Below listed are the nine myths revolving around the credit score:
Myths Revolving Around The Credit Score
Checking the Credit Score Can Reduce it
Incorrect. Keeping track of your credit score allows you to measure your progress as you strive to create credit. Monitoring your credit score several times will keep it the same.
The Higher Your Income, the Higher Will Your Credit Score
No. Your income impacts your ability to make EMI payments but does not influence your creditworthiness. Because your salary is not even stated in your credit report, it does not affect your credit score.
A High Credit Score Means You Are Rich
Absolutely not. A credit score assesses your creditworthiness rather than your money. A good credit score indicates you are a low-risk borrower, regardless of your income.
Having a Perfect Score Improves Your Creditworthiness
Totally incorrect. Credit scores range from 300 to 900, but if you obtain an Experian score of 630 or above, you receive the same benefits as someone above 850.
There is No Need to Worry About Credit Scores from a Young Age
Factually incorrect. Lenders have a minimum age requirement before you may apply for a loan. But it would help if you began caring about your credit score from a young age. It would be advantageous if you began accumulating credit before you began earning.
Paying Off Debt Improves Your Credit Score
False. Having fewer credit accounts can lower your credit score. In comparison, being debt-free benefits your financial situation; paying off your loans will not improve your credit score.
Marriage Merges Both Partners’ Credit Scores
Untrue. Your credit records are not merged when you marry, and your credit score stays distinct to you. Credit bureaus only keep individual credit reports at the customer level.
Closing An Old Account Improves Your Credit Score
Untrue. Ending an old account will not have any effect on your credit score. In fact, it may shorten your credit history and lower your credit score.
Using a Debit Card Improves Your Credit Score
Your bank account funds your debit card. So it’s your money; you may spend it however you choose. This means it will not appear on your credit record and will not affect your credit score.
If you’re looking to improve your credit score, you should first know that five major factors go into determining it. These are
- Payment history. This is the most critical factor in determining your credit score, making up 35% of the overall value. Your payment history includes how often you pay your bills on time and how much debt you’ve managed to pay off in the past.
- Amounts owed: This is another biggie, representing 30% of your score. This one is self-explanatory—it measures how much money you owe versus how much credit you have available.
- Length of credit history: This accounts for 15% of your score and measures how long you’ve managed credit accounts responsibly (and whether or not you’ve had any problems with them).
- New credit inquiries/applications/accounts opened: (this only counts for 10%). It’s essential to keep this number low because every time you open a new account or apply for something (even if it’s declined), it can give creditors pause about granting future approvals.
- Credit mix (this one only counts for 10%). Refers to the types of different credit accounts you have – mortgages, loans, credit cards, etc. It’s one factor generally considered when calculating your credit scores, although the weight it’s given may vary depending on the credit scoring model (ways of calculating credit scores) used.
The Bottom Line
Now that you better understand credit scores and how they work, it’s time to take action. You can start by checking your score online or through one of the many free-credit check services available today.