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How exactly is your credit calculated?

InterestBLOCKER™ helps you take control of your financial future by creating realistic goals which increase your financial potential. Our aim is to educate Canadians about financial literacy by adding transparency to budgeting and further maintaining healthy spending habits. This next section provides a brief overview of how your credit rating is calculated.

What is a Credit Rating and How Does it Work?

Credit is critical in our society. Our goal is to make sure you not only learn the basics about how to build a good credit score, but also how to handle your current credit. In our years of working with people and reviewing their credit, we have seen that credit is best described as a test. But unlike most tests we take throughout our lives, you are not told how to study or prepare yourself for it! Upon taking the test, you might find out if you passed or failed, however, you do not find out what areas could use improvement or what steps you can take to improve your score. Our goal is to show you how to pass the credit test and score high by preparing yourself properly from the start. A credit score is a three digit number between 300 and 900, but it is more than just a number. Think of it as your "credit resume" – your reputation and experience in the past with borrowing and repaying. A higher score is better than a low score.

In Canada, Equifax and Transunion are the two major credit reporting agencies that track your credit score. Think of them as the "credit police". Banks, credit unions, and finance companies all report to Equifax or Transunion about how well you are managing your debts.

Five important elements which make up your credit score

The simplest way to remember what affects your score is to think "A, B, C, D, E".

A. Always Pay on Time. This makes up 35%, or just over 1/3 of your score. While this portion of your credit score may be the most obvious, you may pay all your bills fully and still have a low score. The key is to focus on that "Payment Due Date". Even if you cannot repay the entire balance, make the minimum payment on time.

B. Beware of High Balances. This makes up 30% of your score. Outstanding balances (balances that you keep for longer than a month) should be kept low - below 70% of your approved limit is best. For example, you may have a credit limit on a card for $1,000. Ideally, you want to keep the balance you are carrying below $700. The higher your balances the lower your score. If you go over the limit on your card, your score can plummet. We've seen people with no missed payments and otherwise clean credit have credit scores plummet due to high balances. The flip side of this is it is the quickest and easiest thing to improve. If you pay down your cards, your score will increase.

C. Credit is Like Fine Wine – Older is Better. The age of your existing credit makes up 15% of your score. This portion of your score is based on two things: your oldest piece of credit and the average age of your credit. Always keep your oldest piece of credit. Do not cancel your old cards for the fancy new and shiny card with points. Your card may look good but your credit will not.

D. Do not Be Desperate. This portion of your credit score refers to "credit checks" or "inquiries". The reason that credit checks affect your credit is that you are rated on how often, or how desperate you appear to be for loans. The goal is not to appear too desperate. Contrary to recent popular opinion that suggests that inquiries drastically hurt your credit, this portion affects only 10% of your score. However, if you are applying for credit on a regular basis, your credit score will go down. Make sure that when you are applying for a loan, a mortgage, or a credit card, that you are serious about moving ahead. Don't let anyone and everyone check your credit. Check your own credit online and take the credit report with you. Once you decide on which financial institution to go with they will need to check your credit, but at least you have prevented multiple hits on your credit report.

E. Employ Two Types of Credit. This makes up 10% of your score. It is best to have at least two types of credit: one revolving type of credit (like a credit card) and one non-revolving type (like a fixed term loan). Notice that we didn't say "have two credit cards", since these are the same type. There's nothing wrong with having two credit cards, but it's best for your credit rating if you also have a non-revolving type of credit, like a car loan or an investment loan.

Although it takes time fully recover from bad credit, with good planning anyone can rebuild their credit rating. The good news is that it is possible to start raising your credit score in just a few months. If you have questions about how you can start rebuilding your credit rating, please visit our website.