Credit is a huge factor to get approved and if you will qualify for the best rates available. When it comes down to it, it doesn’t matter how good your income is and how much you have for a down payment if you don’t make your payments on time. The objective of this post is to help you understand what credit is and what affects your credit both good and bad. I’m not going to try and make you an expert, but this will help you easily build and maintain good credit, which can mean thousands of dollars in interest savings for you!

What Is credit and why does it matter?

So, what is credit? Your credit, or beacon score as often referred to, is a score that rates your credit worthiness and repayment history. This score always falls between 300 and 900. If you have a score of “0” that simply means you either have never had credit in the past or have not had any active credit for several years (usually over 7). When it comes down to a mortgage, you will need a minimum score of 600 to even be considered. Here is an outline of how credit affects your application:

·         Score of 599 or less

o   No longer have access to prime lending and rates

o   Minimum down payment of 20% is required for a new purchase

o   Need a reasonable explanation of why the score has dropped for a new purchase

o   Rates will typically start about 1% higher than normal rates. This means an extra $2,945.30 in interest on a 300k mortgage per year

o   If you already have an existing mortgage you will not be able to refinance or transfer your mortgage, meaning your bank can charge you whatever interest rate they please at renewal

·         600 to 620

o   Have access to minimum down payment requirements again for new purchases

o   Refinances are typically off the table

o   Rate premiums on mortgage renewals, can’t access best rates

o   Many lenders will not lend to you and the ones that will are going to try to find reasons why they shouldn’t

o   Need an explanation of why the score is low

·         620 to 680

o   No longer need an explanation of your credit situation as a whole

o   Refinances are available but still difficult to receive

o   rate premiums still apply

o   Best rates available on new purchases with less than 20% down

·         680 to 720

o   Best rates available on all types of mortgages

o   Credit should no longer cause any issues with the application

o   All lenders will be available, lots of options for new purchases and renewals to get the best possible deal

·         720+

o   Congratulations, your credit is now an asset on the application

o   If you are weaker in other areas such as employment, your strong credit will help to receive exceptions where poorer credit applicants would be declined.

o   The higher you go, the easier it will be for you to get lending and the fewer questions about credit a lender will have

That’s the basics around credit ratings. Let’s dive into the 3 main accounts that are going to affect your credit now. These are revolving accounts, Installments, and Mortgage accounts.

Revolving Credit

Revolving credit is one of the most important areas to ensure you’re always on top of. This can influence your credit score a lot in a short period of time if mismanaged. Revolving credit is defined as any account that is not required to be paid off in full each month and can be reborrowed on at any time. The two main types of this is credit cards and lines of credit. I find that everyone who provides these credit sources fails to explain how they affect your credit and it can cause people’s scores to be driven down greatly even when you’re making your payments on time. The same can be said that they can help build credit quickly in the same regard! Here is what you need to be aware of:

·         Do not exceed 80% of your maximum limit on a monthly basis. You will get labeled as over reliant on credit, even if you are paying the balance off in full each month. This will bring your score down

·         If you are using between 50% to 80% of your maximum limit per month your score should be relatively unaffected if you are making payments on time. You will most likely maintain a score over 700

·         If you are using 50% or less each month and making your payments on time, then this is excellent! The credit bureaus algorithms adjust your score based on % of limit used and if you’re payments have been on time. Less % used = higher credit score

·         This one will seem obvious, but always make your minimum payments even if that’s all you can do that month. Late payments show on your credit and will need an explanation even if your score is still okay.

Revolving credit, despite what you may have been told, is where it is recommended you have a higher limit available. Since your % usage does impact your score, having a higher limit to keep that down will go a long way in building and maintaining healthy credit. If you struggle with spending then it is best to explore other ways to build strong credit, but the higher limit will ultimately lead to a better score if you manage your spending habits.

What causes revolving credit to have a greater impact than the other areas on your score? There are two things being reported on one account for starters. Both making payments on time and credit usage are factored into your score for each open account. On top of that it is reported every single month, whereas sometimes vehicle loans and mortgages will only be report to the bureau once every few months. This means that you will have 24 reports from a credit card in a year, but your vehicle loan could have as little as 4 reports. I hope this paints a picture of how much large a revolving debts impact can be on your credit!

For example:

Even though number 2 owes more, they have a higher limit and thus less usage. If both people are making their payments on time, number 2 is going to have a much better score.

For people who have bad credit, this is the tip I often give them to rebuild. Get yourself a $500 limit card, if your score is low you may have to put up security to receive this. Buy one thing a month on the card, typically $10 or less, and then pay it off in full once you get your statement. You’d be shocked at how fast you can turn a credit score around using revolving credit.

Installment Credit

This section is simple. Any loan, aside from a mortgage, is going to show as an installment on your report. This means you have set payments and after a predetermined amount of time those payments will have this paid off in full. The most common is a vehicle loan. Make your payments on time and you won’t have any issues, it will help slowly build your credit. This does not have nearly the impact as revolving debt does on your score, but lenders do take it into account when determining credit worthiness aside from your score itself.

I can’t stress this point enough, it is aside from the building and maintaining credit this blog is focused on, but people spending too much on vehicles with large loans is one of the main reasons they get denied home ownership. You overextend yourself into a declining asset that in many cases impacts a person negatively on net worth as the vehicle’s depreciation outpaces paying off the loan.

Mortgages

If you have or had a mortgage this debt is treated again more for credit worthiness, then the impact it will have on your score. It will of course bring your score up over time, but again much slower than a credit card or line of credit will. The most important thing to remember is making your payments on time. Being over 30 days late on your mortgage can greatly impact your chances at receiving a new one and getting best rates on your own next time you’re up for renewal.

Other factors (how do they impact you?)

1.       Bankruptcy

·         Is typically discharged in the first 9 months

·         2 years waiting period after discharge before you will be able to apply for a mortgage again

·         Credit must be rebuilt as you will automatically go to a score of 300 when declaring bankruptcy

·         Reasonable explanation for the bankruptcy (taking too many vacations won’t cut it, and yes, I have gotten this as a reason before)

·         Will remain on your credit for 7 years if it’s your first time, 14 years for a second offense.

·         All unsecured assets will be sold to pay back creditors

2.       Consumer Proposal

·         Your debt is all compiled into one smaller loan which you will make monthly payments on

·         Prime lending not available until 1 year after the proposal is discharged (paid in full)

·         Discharge time varies from person to person

·         Credit must be rebuilt

3.       Collections

·         Cannot receive lending until the collection is paid in full

·         May require receipt to prove payment

·         Need an explanation to what caused the collection

·         Standard credit score rules apply

Some advice if you ever must go through a consumer proposal or bankruptcy. Start rebuilding credit ASAP after it happens, this will help you out tremendously in the future. Start banking somewhere else, by that I mean start banking with someone who wasn’t involved in the debt write offs. If you bank with RBC primarily and you wrote off a 20k credit card with them for example, you mas as well close your accounts and start somewhere fresh because they most likely will never lend to you again, or impose harsh interest rates and very limited access in the future. A BMO card included in that too? Well don’t go there either. Your bank relationship will be very important when looking for credit cards and lines of credit at good interest rates in the future. Even though it’s gone from your credit after 7 years, the banks will keep those records for a lot longer.

Closing recommendations

I’m often asked what I recommend for building and maintaining great credit, and here’s what I recommend:

·         2 credit cards. One smaller limit that is accommodating to your daily spending and provides you some nice rewards! The smaller limit is so that if you are ever caught up in a scam it limits the damage someone can do with the card information. A second larger limit card in case of emergencies or if the other card is having problems (for example one is a Visa, the other a Mastercard since some vendors don’t except both)

·         1 line of credit in case of emergencies or one-off large purchases. These are a great low interest source of quick borrowing needs for the short and medium term. Keeping your score excellent will ensure you get a good rate on your line of credit

·         You don’t need a loan at all. A vehicle loan isn’t going to be the deciding factor on if you get approved for lending or not. It won’t hurt you in terms of credit either, but isn’t necessary for building and maintaining credit

·         Ask your cell phone service provider if they report to the credit agency. Most do now, but if they don’t consider switching. It will help prove credit worthiness at the time of applications.

Reach out to me with questions any time if you are concerned about your credit. I’m free to use and happy to discuss how you can improve your credit and how different things may affect you. I can also help with credit disputes and credit rebuilding to ensure you can get into the home of your dreams!