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Understanding Credit Ratings

Everything You Need to Know About Credit Ratings

Do you know your credit rating? Most people don’t. However, credit ratings are important. If you have a good credit rating, it becomes easier to borrow money and gain access to credit at lower interest rates. If you have bad credit, lenders won’t be as likely to offer loans and, if they do, they’ll likely charge higher interest.

What is a Credit Report?

A credit report is a summary of your credit history. It shows all of the loans that you have taken out in the past six years, how much you owe, how often you pay, your credit limits on all of your accounts, as well as other financial information. Anyone who has ever borrowed money in Canada has a credit report in Canada.

Contrary to what many believe, your income does not appear on your credit report and how much money you make is not listed anywhere in the report.

Credit reports are prepared and maintained by the major credit bureaus in Canada. The two largest are TransUnion and Equifax.

Any company that is considering lending you money or providing a service that involves you receiving something before you pay any money (such as a phone contract or home rental agreement, for instance) can get a copy of your credit report.

What is a Credit Score?

A credit score is a number that represents your current credit situation. It is generated from the information in your credit report. A credit score is considered a “snapshot” of your credit at the current time and is displayed as a three-digit number.

In general, the higher your credit score, the more likely lenders will be to offer you loans at reasonable interest rates. This is because you have shown that you have a history of successfully borrowing money and paying it back.

Credit scores fall between 300 and 900, with higher being better. A credit score of 750 or higher is considered excellent, while a score higher than 600 is generally considered good. Anyone with a score lower than around 600 will likely have some trouble gaining access to new credit.

How is a Credit Score Calculated?

Various factors go into the calculation of a credit score and the exact formula that the credit bureaus use to calculate credit scores is not public knowledge. However, some of the factors that help determine a credit score are:

  • Your payment history
    • The more often you make your payments on time, the better. This is a key factor in determining your credit score and likely the most important aspect. Missing payments will hurt your credit score, especially if payments are missed often.
  • How much outstanding debt you have
    • In general, you want to show that you can borrow money, but not too much money. Lenders do not want to see that you are carrying very high balances on your accounts as this shows that you might be having trouble paying your day-to-day expenses without borrowing money.
  • Your credit account history
    • Having a long history of successfully borrowing reasonable amounts money and paying it back shows that you are responsible and can be trusted to make payments.
  • How many recent inquires have been made into your credit report
    • Whenever a lender or a business checks your credit (such as when you apply for a loan), this inquiry is noted on your credit report. This is why you should apply for credit only in moderation. Many recent inquiries on your account could suggest that you are financially unstable and looking to borrow a lot of money to afford your expenses.

How can I Check my Credit Report and Credit Score?

You can get a free copy of your credit report by mail. This can be done by requesting a credit report by mail on the TransUnion and Equifax websites. You can also request an instant credit report online through these credit bureaus, though they both charge a fee for this service.

There is no free way to find out your credit score. Both Equifax and TransUnion will give you access to your credit score (along with your credit report) for a fee.

When you do receive your credit report, it’s important to check it for errors, as mistakes do happen.

How to Improve Your Credit Score

As mentioned, the most important factor in determining your credit score is that you make payments on time.

You will also want to make sure that you do not go over your credit limit. The general guideline is that you should not use more than 35% of your available credit. Therefore, if you have a credit card with a $5000 limit and a line of credit with a $5000 limit, you should try not to borrow more than $3500 at any given time.

If you would like to improve your credit score, there is no way to magically do so overnight. You will need to borrow a reasonable amount of money, make payments on time, and do so for an extended period. Remember, a long history of successful payments is what leads to a good credit score.