Credit Scores: What You Need To Know

What’s the score? You may not even know it, but your credit score is a huge component of your financial identity. Whether you have sparkling credit or a regrettable borrowing history, when you’re looking for a new credit card or loan, at some point your credit score will come into play. Knowing your score and, more importantly, what it means to prospective lenders, is the surest way to take control of your financial future.

What is a credit score?

A credit score is a three-digit number assigned by a national credit bureau to individuals based on their financial history. These scores are used by lenders in determining a potential borrower’s likelihood of meeting their credit obligations—and the risk of the borrower not paying back credit cards or loans.

What do credit scores mean?

Credit scores are meant to provide a quick snapshot of a borrower’s credit history. While credit scores don’t tell the entire financial story, most credit card or loan companies use them as an essential part of their approvals process. With a quick glance at a score, lenders gain useful insights into a loan applicant’s past financial activity and reliability.

Credit scores range from 300 to 900. Having a very low score (typically defined as 300 to 574) means a borrower has damaged credit, often the result of bankruptcies or loan default, and will have difficulty being approved by many lenders. Borrowers with scores considered below average (575 to 659) or fair/average (660 to 689) have more options open to them, though potentially at higher interest rates. On the other hand, individuals with a good (690 to 740) or excellent (740 or higher) credit score have a high chance of being approved, and likely on better terms.

How do I find out my credit score?

In Canada, you can obtain your credit file from the major credit reporting bureaus, TransUnion and Equifax. By regulation, every Canadian is entitled to a free credit check, including an up-to-date credit score once a year.

How is my credit score calculated?

A woman calculating her taxes

The two bureaus each have their own formulas for coming up with credit scores, but generally follow the same overarching principles. Here’s how the factors involved in determining a credit score typically break down:

Payment History (35%)

Your history of paying back debts is the biggest consideration. How have you maintained your past and existing debts? Do you make payments in full and on time? It’s also worth noting that this usually includes consumer debt, not mortgages.

Credit Utilization (30%)

This means the amount of credit you’re using relative to your total debt available. For example, if you have a credit card debt with a $5,000 limit and have a balance of $1,000, that’s a 20% credit utilization. Utilization of less than 30% is generally advised.

Length of Credit History (15%)

How long have you been using and maintaining your credit? The longer the history, the more reliable you’ll be considered.

Soft and Hard Credit Checks (10%)

You may not know it, but each time you run a check on your credit, it is recorded in your credit history. A “soft” check is when you check your own score, or a review of your history is conducted for non-lending purposes, which doesn’t affect your score. A “hard check,” meanwhile, is one performed during a credit or loan application. Too many of these checks on your history can suggest volatile credit behaviours to prospective lenders.

Diversity of Credit (10%)

Do you have a variety of credit products or multiple loans? If you have different types of credit (and maintain your debts responsibly), this can be a plus in the eyes of lenders.

Total Payment Ratio

Also worth noting is a figure termed Total Payment Ratio (TPR), which reflects your behavior when making payments. Do you pay your balance in full, or carry a balance? Do you only pay the minimum required, or put down larger amounts? While TPR doesn’t factor directly into calculating credit scores, the major bureaus are increasingly using it in their evaluations.

How does my credit score affect me?

Your credit score has a direct impact on your daily financial life. It’s typically the first thing lenders, such as banks or other financial institutions, will look at when assessing your application. This can be a good thing or a bad thing, depending on your current credit standing.

If you have a good or excellent credit score, lenders will be more apt to do business with you. That means, you have greater chances of receiving approval for a car loan, personal loan, or credit card. Not only that, but you’re also more likely to receive a lower interest rate on these loans.

Meanwhile, if you’re burdened with a poor or below-average credit score, lenders will consider you much less trustworthy and will be more resistant to approving you for a loan.

Credit scores aren’t just used by credit companies. Your credit score may be factored in when applying for a mortgage, renting a property, or even applying for a job.

However, credit scores are far from fixed in stone. The good news is you can start working on improving your credit score immediately. Tighten up your credit usage, and establish new patterns for making payments, and your credit score will be skyrocketing in no time.

If you have gone through financial hardships and need to talk to someone, contact us today at Debt and Credit Solutions and speak to one of our federally licensed trustees to help get you back on track. Don’t put it off any longer, we offer a range of solutions for all your financial difficulties. We take pride in serving the Kentville and Halifax areas and look forward to discreetly speaking with you.