Word on the street is you're looking to build your credit score. Lucky for you, we happen to be experts in that area. Whether you’re looking to build credit in Canada, make a major purchase, or set yourself up for success in the future, upping your credit score can give you an advantage.
In this quick and easy guide, we’ll break down 5 simple factors that impact your credit score. We’ll also provide some helpful ways you can build your credit and avoid damaging it.
Your credit score: What is it and why do you need it?
A credit score is a number that’s used to predict the likelihood you’ll pay your bills on time. It’s determined by your history of acquiring and paying off debts, or making obligatory payments on time.
Companies use it to determine your creditworthiness. A good credit score makes it easier for you to accomplish many important life milestones in Canada:
- Qualifying for mortgages or vehicle financing
- Getting a credit card
- Renting or leasing housing
- Qualifying for insurance
How Credit bureaus calculate your score
Each bureau determines credit scores differently, but a combination of factors listed below usually play a role.
- Making on-time payments
- Being aware of your credit utilization ratio (more on that later)
- Differentiating your credit products
- Increasing your credit history length
- Being mindful of credit checks
- Limiting unnecessary debt
In Canada, Equifax and TransUnion are the two main credit bureaus. Your score may be different with each. You can [order a copy of your credit report](https://www.canada.ca/en/financial-consumer-agency/services/credit-reports-score/order-credit-report.htmlOrdering your credit report and score) from either bureau. You can also get your credit score with services like Borrowell or Credit Karma.
Credit score range: 300-900
At the end of the day, a good credit score is whatever helps you qualify for the loan you want. Below are the scores and their ratings according to TransUnion’s VantageScore model:
- 300–579: Poor
- 580–669: Fair
- 670–739: Good
- 740–799: Very good
- 800–850: Excellent
So now that we have that out of the way, here are some ways to get your credit score higher.
#1: Make your payments on time: or manage to pay more than the minimum
Did you know making on-time payments is a critical factor in calculating your credit score? It’s true. In fact, how much you choose to pay on a monthly basis affects your score too.
We get it. We’re finally emerging from the pandemic, and now we’re dealing with inflation. Getting ahead can be difficult, which sometimes means the minimum payment is all you can make and that’s okay. Just know that while this method will maintain your score, it won’t improve it.
Now say you’re in a position to pay over the minimum amount; this is where you can truly start looking to build your credit score. Committing to paying more than the minimum payment can signal to credit bureaus that your score deserves a bump.
Pro tip: Even if a bill is in dispute, make a payment on the account to keep your credit score in good standing.
#2: Spend below your credit limit: when “know your limit, stay within it” isn't quite right
Let’s say you have a credit limit of $5,000. The common advice is “know your limit, stay within it,” but this is not really true when it comes to credit. In fact, it’s very far from the truth.
What if we told you that you’re not actually supposed to use your entire credit limit, and you should actually keep your spending well below? Mind-blowing we know. But why is this the case? Think of it from a lender’s perspective. When offering credit, limiting risk is important. In simple terms, lenders want to make sure they’re going to get their money back.
If someone is using 100% of their credit limit, it doesn’t instill confidence that they will be able to pay off the debt, which means the risk is higher. When you show that you’re a higher risk for lenders this is reflected in your credit score. The lower the score, the higher the risk, and vice versa.
What we’re talking about here is your “credit utilization ratio,” which describes how much of your available credit you use month over month. When focusing on building your credit score, the industry rule of thumb is to keep your credit utilization at approximately 30%. For example, if you have a $1,000 limit, then you should avoid holding a monthly balance above $300.
We know that 30% seems low, and it’s probably shocking to a lot of people reading this, but if you want to increase your credit score quickly this is one of the best practices you can implement.
Do you know what your credit utilization ratio is? If not, while you’re here, take a minute to calculate it for yourself.
Current Balance / Limit = ____ x 100 = ___ %
Example: 970 / 5000 = 0.194 x 100 = 19.4%
If it’s below 30%, you’re on the right track.
#3 Let your credit history age: is it bad to close a credit account?
Your credit history can show lenders how much experience you have with credit. This helps them determine how likely you are to pay your loans on time. Who would you trust more: someone who has 5 years of experience, or someone who has 10 years?
This part of your credit score is determined by looking at your oldest accounts, newest accounts, and the average age of all accounts. So if a credit account isn’t costing you anything in fees, it might be beneficial to keep it open even if you're not using it. Are there fees? Does it impact your credit utilization? If the answer is no, it might help to keep the account open and let it age for a bit longer. You want to find that balance.
#4 Limit your hard credit checks: be mindful of the frequency and timeframe
Before a lender approves you for a credit product, they will check your credit. You need to have credit to get credit. That’s why you start early and small to build up your credit score and work towards a larger goal (like a house).
There are two different types of credit checks: soft and hard.
Soft credit checks do not impact your credit score, nor do they show up on your credit report. This can be you checking your credit score, or a company wanting to update their records on your account regarding your credit, so feel free to personally check your credit score as often as you want.
Hard credit checks are the ones you want to be mindful of. These credit checks appear on your credit report when you apply for a form of credit, and sometimes even through rental or job applications.
This is a more thorough check. A company pulls your full credit report and analyzes your credit history to determine how risky it is to lend you money. These types of credit checks should never come as a surprise since they need to get your consent first.
Pro Tip: Don’t be afraid to check your credit score, in fact, we encourage you to do so. Monitoring your credit score can help you keep your eye on the goal, prevent fraud, and dispute things that might be impacting your credit.
Having one hard credit check once in a while won’t have a significant impact on your credit score (probably only a ~5 point dip, which will recover). However, continually getting hard credit checks month over month looks like risky credit behaviour and will have a more significant impact on your credit score.
If you’re shopping around for credit products, we’d recommend applying for them within a two-week period, as they get filed under a single credit check rather than multiple.
#5 Develop a healthy credit mix: diversification is the key
While using just one type of credit product doesn’t negatively impact your score, it also doesn’t help you build it. As you might be starting to look at larger forms of credit, lenders want to see that you are able to successfully manage credit products of all kinds. Being able to manage different forms of credit signals that you are responsible with money and loans.
Final thoughts: good things come to those who wait
There you go. Remember these 5 simple concepts and you should see your credit score start to improve. Keep in mind that your credit score doesn’t grow overnight. You can be doing all the right things, but nothing beats time and patience, as difficult as that may be. The good news is that by taking the time to read this, you’re already on the right track to hitting your goals when it comes to building your credit score.
This article provides information and is not intended to provide any personalized tax, investment, financial, or legal advice. You are encouraged to seek professional advice before making financial decisions.