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A credit score is a number that some companies and organizations use to determine your creditworthiness — or your ability to pay back your debts and make other monthly payments.
When you apply for credit, the financial institution will likely check your credit scores, and use it to decide if they’re comfortable lending to you, how much they’ll lend you, and at what interest rate.
Your credit scores may also matter when you apply for an apartment or job, or when you apply for insurance in some provinces.
While your credit scores can look slightly different, depending on which credit bureau it’s pulled from (Equifax or TransUnion), the same five factors are primarily used to determine the final number.
Here’s an explanation of each factor and how you can stay on top of them.
1. Your payment history
Paying your bills on time is the most important factor in building and maintaining your scores because it shows lenders your ability to responsibly manage credit.
On top of detailing whether or not you’ve paid your bills on time, your payment history may also show bankruptcies and any debts that have been sent to collections agencies or written off. These negative marks could significantly damage your credit scores.
If you think you can’t pay a bill on time, the Financial Consumer Agency of Canada (FCAC) suggests contacting your lender immediately to see if you can make a special arrangement to repay your debt.
2. The types of credit you have
The different types of credit accounts you have is another piece of the puzzle that makes up your credit score calculation.
According to the FCAC, it’s preferable for you to have access to more than one type of credit. This is because both lenders and credit bureaus want to see that you’ve handled multiple types of credit well.
Common types of credit accounts include:
- Credit cards
- Mortgages
- Auto loans
- Student loans
It’s possible that a mix of credit accounts may help you achieve higher credit scores — however, we strongly recommend that you only open credit accounts that you need and make full, on-time payments.
3. Your use of available credit
One of the most important numbers that goes into your credit scores is the percentage of available credit you are currently using — known as your credit utilization.
To calculate this for yourself, add up the balances of all your credit card accounts and divide it by your total available credit.
For example, if you are currently using $2,000 of your $10,000 limit, you would divide $2,000 by $10,000, multiply that figure by 100 and find you’re using 20% of your available credit.
Your goal is to keep this number under 35%. Going above this could hurt your credit scores and ability to borrow more money.
4. The length of your credit history
The length of time you’ve had your credit accounts open could also impact your credit scores.
The rule of thumb is that the longer you’ve had an account open for (and actually use it), the more this may help your credit health.
To that end, closing old accounts can damage your credit scores, as it will shorten the length of your credit history.
Closing an account can also hurt your scores if doing so means you’ll be using more than 35% of what’s available of your leftover credit, or if it means you have fewer types of credit (credit cards, loans, line of credit, etc.) available to you.
It’s a smart idea to keep your oldest credit account open and use it occasionally, so long as it’s not costing you more than you’re getting out of it.
5. The number of credit inquiries on your report
Your credit scores can be affected by the number of times you try to open new credit accounts.
Remember: whenever you try to open a new account, the lender will check your credit report — and that’s reported as a “hard inquiry”, which could affect your overall scores.
A hard inquiry is a credit check that’s recorded in your credit report, which will be seen by anyone who checks it in the future.
Examples of hard hits are credit card and loan applications, as well as some rental and employment applications.
Conversely, whenever you check your own credit scores, that is known as a “soft inquiry”. Soft inquiries aren’t recorded in your credit report, and therefore won’t affect your credit scores.
If you’ve applied for credit multiple times in a short window of time, it can damage your credit scores. For that reason, it’s important to only apply for credit when it’s absolutely necessary.
However, there is one exception to this – if you’re shopping around for the best rates for a car loan or mortgage, if these multiple hard inquiries are recorded within a two-week period, they’re treated as a single inquiry on your credit scores.