The first time a credit score prevents credit application approval might be the first time the consumer realizes the importance of a healthy credit history. Canadians create new entries on the personal credit report each time a payment is made on a mortgage loan or credit card account. Transunion Canada and Equifax Canada are the credit bureaus that record such financial activities. Financial institutions use the credit score to determine the risk of nonpayment in the loan approval process. High scores are considered a positive indication that the borrower will repay the loan. Lower scores indicate irresponsible repayment habits that will prevent application approval.
VERIFY THE CREDIT HISTORY
Any number of problems can arise to affect the credit score including late payments, invalid entries, high debt ratios and mishandling of credit. The consumer should be aware that years of positive activity can be negated with one month of unpaid bills. Once the low credit score is noticed, the consumer should request a copy of the credit report from each of the two credit bureaus. Two important actions should be taken upon receipt of the credit reports.
• Verify entries – Negative entries on the credit history will alert a financial institution that the consumer is a bad credit risk. All negative entries stay on the report for different periods of time. An invalid entry can be disputed in writing by following the written procedure on the credit bureau’s website. Valid entries cannot be disputed or removed early.
• Identity theft – Extraneous entries on the credit history can indicate that the identity of the consumer has been compromised. The credit bureaus have recommended procedures for addressing this situation. Months of effort will be required to regain control over the personal identity.
POOR CREDIT SCORE
After validating the contents of the credit report, the consumer should take steps to improve the credit score.
1. Monthly bills must be paid on time, every month. Utility bill payments will not affect the credit score, but some cell phone companies report late payments. Credit scores are affected when mortgage payments, credit card bills and auto loan payments are received after the due dates. A payment that is more than 30 days late creates a negative entry on the credit report.
2. Live within the monthly household income. The amount of money spent on each account must add up to less than the monthly income for the same month. Partial bill payments indicate that the household is overspending each month.
3. Repay debts early. Interest payments on previous purchases place undue strain on the monthly budget. The debt ratio is a significant portion of the credit score calculation. Low debt ratios will allow the credit score to rise more quickly.
4. Available credit is important. Credit bureaus know the credit limit on each credit card held by a consumer. The total amount of available credit is used to calculate the percentage of credit used. High percentages indicate overextension of the consumer’s credit profile.
5. Limit credit inquiries. Every credit application provides permission to a lender to run a credit check. Multiple inquiries in a 30-day period alerts the credit bureau that the consumer is going to borrow money. “Hard” inquiries are recorded and tallied. The credit score will decline because of the perceived risk of overextending the credit obligations.
NON-EXISTENT CREDIT HISTORY
Some consumers do not have a credit history because purchases have never been made on credit. Young people who are leaving home and attending college or starting to work will fall into this category. Financial institutions have special loan categories and credit accounts for this situation. The first chance to establish positive credit practices will be extended. On-time payments and careful management of revolving accounts is essential to create a solid credit history on the first attempt.
• Auto loan – First-time car buyers can secure a loan. Every payment must be made on time to demonstrate responsible handling of credit.
• Secure credit card – Banks can require a first-time cardholder to place $300 on account to use the credit card. After six months, the credit record is established, and the money is returned.
COMPONENTS OF THE CREDIT RECORD
A consumer credit report and history is comprised of important information pertaining to the actual use of credit. The mathematical formula is designed to rate the consumer’s use of credit and rate the risk of default.
1. Payment history – Credit cards, auto loans and home mortgages are the most common types of credit. Late payments are recorded after 30 days.
2. Collection efforts and bankruptcy – Negative marks on the credit history will remain for the legal number of months or years. These entries are evaluated closely when a lender is considering loaning money to the consumer.
3. Outstanding debts – Credit card and loan balances are visible on the credit report. Payments received within the past 30 days might not appear on the report. Available credit is recorded on the report as well.
4. Account history – The age of each credit account is recorded on the credit history. Accounts that have remained open and in good standing for many years are considered positive entries on the credit history.
5. Number of hard inquiries – Within the past 30 days, the credit checks against the history will be tabulated. Each one can raise the debt obligation of the consumer. Too many will lower the credit score.
6. Credit types – A strong credit history will include various types of credit, including long-term, short-term and revolving accounts. Responsible use of each type indicates the ability to repay obligations.
Each category is weighted differently because of the importance of some categories in the effort to determine risk of default. Payment history, negative entries and outstanding credit balances are the categories with the highest weighted percentages.
Consumers should be aware that the credit bureaus do not record demographic information, such as gender, race or religious affiliation. These attributes cannot be used to determine the consumer’s ability to repay a debt.
BEWARE OF CREDIT-REPAIR COMPANIES
A company that advertises instant credit repair services is not being honest. The consumer should realize that credit bureaus have strict procedures for removing entries on a credit report. The consumer can dispute inaccurate entries in writing. Special contact with the credit bureau from a third-party is unnecessary. Fees paid to a third-party company would be better spent paying bills. The consumer cannot dispute valid, negative entries on the credit report. The credit bureau will not remove these entries until the legal time limit has passed. A credit-repair company that claims otherwise is misleading the potential customer.
High credit scores are established through years of responsible credit handling in every category. Personal credit scores are difficult to raise and simple to lower. The consumer should embrace solid payment practices every month. Reduction in the amount of money used for debt is the best approach to maintaining the credit score over time. Early bill paying indicates that the consumer is responsible and will repay loans.
Misuse of credit closes many doors of opportunity for the consumer. Houses, cars, education and major purchases require access to various types of credit. Lenders do not offer loans or credit cards to consumers who present unnecessary risk. Good credit requires discipline in many areas of life to ensure that the unexpected life events do not cause undue financial hardship.