Maintaining a Good Credit Rating
Personal debt levels in Canada are at an all-time high. In April, 2010 the federal government will begin tightening the rules on mortgage lending. Banks are also implementing tougher standards for lending money. In short, it is getting harder to borrow so a good credit rating is a must.
The good news is that there are steps you can take to ensure your credit rating stays good if it is strong already, or improves if you’ve had trouble in the past.
How Your Credit Rating is Calculated
In Canada, lenders use something called a FICO score. A number of factors go into the calculation, which results in a number between 300 and 900. Most consumers fall between 600 and 750.
The FICO score takes your borrowing patterns into account and makes predictions about how you will manage your credit. According to a recent article on the CNN Money website, the FICO score is based on payment history, how much you owe in relation to your credit limits (your debt utilization ratio), the length of your credit history, and your mix of credit types.
Avoiding Trouble with Your Credit Rating
That same CNN Money article discussed this issue and laid out the top five actions that can damage your credit score. We have summarized those points here.
Late payments. For people with a good credit rating even one late payment can reduce their score by 110 points. Payment history is worth about 35% of your overall credit score, so it is very important to make payments on time. Remember too that things like late payments stay on your record a long time – seven years in fact.
Big balances. Some 30% of your credit score is based on your debt utilization ratio, or the balance you owe in relation to your credit limit. The bigger the balance, the worse the rating. Try to pay off as much of your balance as you can each month.
Closing a credit card or credit line. This point sounds a bit counter-intuitive at first. While you may be tempted to close accounts or credit lines as interest rates increase, any closure could have an impact on your debt utilization ratio. Closing one account removes that available credit. With less available credit, any balances you owe will suddenly take up a lot more of your debt utilization ratio. (If you have lots of credit lines, the impact of closing one will be smaller.) You could open a line of credit to increase your overall credit limit, but before you do, see the next point.
Opening a new credit line. When you open a new credit line, the required credit check will lower your score by about five points. A further 5 to 15 points could be taken off just for opening the account. Look carefully at your financial situation. Sometimes giving yourself more available credit is a good strategy and worth the initial reduction in score.
Defaulting on a loan. Obviously, defaults will cause the most damage to your credit rating. Mortgage foreclosures can reduce your score by about 200 points and a bankruptcy can cut about 250 points.
It’s Never Too Late to Improve Your Credit Score
Even if you are struggling under a mountain of debt or have defaulted on a loan, you can start rebuilding. CMI can help you use the equity in your home to devise a debt consolidation strategy. With the right plan in place, you can pay off high interest debt, come up with a payment plan for your remaining loan, and improve your credit score in as little as two years.
