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what affects credit score

Navigating the realm of credit scores can often seem like an unnecessarily complicated journey.

It's a path filled with financial nuances and rules that can impact your ability to access important financial milestones, like buying a home or securing a loan.

For many, particularly young adults, immigrants, or those recovering financially, understanding what factors influence your credit score is essential for making smart financial decisions. It's about knowing what boosts your score, what harms it, and how to balance various credit-related activities.

In this article, we’ll break down these factors, helping you grasp how credit scores work, how to safely build your credit score, and how to manage it effectively.

This knowledge is vital, not just for immediate financial steps but for long-term financial health and stability.

What Is a Credit Score Anyway?

Think of a credit score like a report card for your finances. It's a number between 300 and 900 that tells banks and other lenders how good you are at borrowing money and paying it back.

If your score is high, it's like getting an A on your report card – it tells lenders you're good at handling your money, so they're more likely to lend you money for things like a car or a house.

Credit scores are important because they help decide if you can get a loan, and how much it will cost you. If your score is high, you might get lower interest rates, which means you pay less over time. But if your score is low, it can be harder to get a loan, and it will likely cost you more.

To keep track of your credit scores, there are companies called credit bureaus – the big ones in Canada are called Equifax and TransUnion. They watch how you use your credit cards, pay your bills, and handle your loans, and then they use this information to figure out your score.

What Affects Credit Scores

If you’ve been wondering ‘what affects my credit score’, it's important to know that several key factors come into play. These elements are like the building blocks of your financial identity, shaping how lenders and financial institutions perceive your creditworthiness.

These factors all work together to create a picture of your financial reliability.

Here are the most important factors that affect your credit score:

  • Payment History: This is a big one. Lenders want to see how regularly you pay your bills. Your payment history includes everything from credit cards to phone bills.

If you pay everything on time, it shows you're reliable, which is great for your credit score. However, late payments or missing them entirely can really hurt your score.

  • Credit Utilization: This is about how much of your available credit you're using. Imagine you have a credit card with a $1,000 limit. If you've used $800 of that, your utilization is 80%, which is pretty high.

Lower utilization, like using only $200 of your $1,000 limit, is better for your credit score. The rule of thumb is to keep your utilization below 30%.

  • Length of Credit History: The longer you've had credit, the better it is for your score. It shows lenders a longer track record of how you handle your money. So, if you've had a credit card for several years and use it responsibly, it helps your score.

  • Debt-to-Income Ratio: This measures how much debt you have compared to your income. If your debt is high but your income is low, lenders might think you'll have trouble paying back more debt. This can affect your credit score.

  • Types of Credit: Having a mix of different types of credit can be good for your score. This could include a car loan, a mortgage, and a credit card. It shows you can handle different kinds of financial responsibilities.

  • New Credit Inquiries: If you apply for a lot of new credit in a short time, it might look like you're in financial trouble. This is why each time you apply for credit and the lender checks your score, it can lower your score a bit.

  • Negative Marks: Things like bankruptcies, foreclosures, collections, or liens can seriously damage your credit score. These are signs of serious financial distress and can stay on your credit report for a long time.

Remember, your credit score is like a financial fingerprint – unique to you and constantly changing based on how you manage your money.

Managing Your Credit Score

By understanding what affects your credit score you can take steps to improve it, like paying bills on time, keeping credit card balances low, and not applying for too much new credit all at once.

Keeping an eye on your credit score and the factors that affect it is crucial. Regular monitoring can help you make informed decisions and spot any potential errors or issues quickly.

What Isn’t in Your Score

While understanding what affects your credit score is crucial, it's equally important to know what doesn't factor into it.

There are common misconceptions and assumptions about credit scores that can lead to confusion.

Here, we'll clarify some key points:

  • Income Level: Your income doesn't directly impact your credit score. Whether you earn a high or low income, it's not factored into the score calculation. Credit scores are more about how you manage your credit, not how much money you make.

  • Bank Account Balances: The amounts in your checking or savings accounts also don't affect your credit score. Credit scores are primarily concerned with credit and debt management, not how much money you have saved up.

  • Employment Status: Being employed or unemployed is not something that will directly change your credit score. While employment information may be on your credit report, it doesn't influence the score itself.

  • Rent Payments: In most cases, your regular rent payments are not reported to the credit bureaus and therefore do not affect your credit score. However, there are some rent-reporting services that, when used, can ensure that your rent payments are included in your credit report.

  • Utility and Cell Phone Bills: Generally, payments for utilities and cell phone services are not reported to credit bureaus unless they are delinquent. Regular, on-time payments of these bills, while crucial for your overall financial health, usually don't improve your credit score.

By understanding what is and isn’t included in your credit score, you can focus your efforts on the factors that truly matter and avoid worrying about aspects that don’t contribute to your creditworthiness.

Remember, building and maintaining a good credit score revolves around responsible credit management, not necessarily the other aspects of your financial life.

What is a Good Credit Score to Have?

In Canada, credit scores range from 300 to 850, each falling into categories that signify your creditworthiness.

Here's a quick breakdown:

  • Poor (300-559): This range may lead to challenges in loan approval and higher interest rates.

  • Fair (560-659): Fair scores might get you credit but with less favorable terms.

  • Good (660-719): A good score opens the door to competitive interest rates and loan approval chances.

  • Very Good (720-799): Those with very good scores enjoy favorable loan terms and interest rates.

  • Exceptional (800-850): The highest range, offering the best rates and credit terms.

A higher credit score offers numerous benefits, including lower loan rates and better chances of approval. However, it’s vital to avoid actions that can negatively impact your score, such as late payments or high credit utilization.

Understanding where your score sits on this spectrum can help you make informed financial decisions and work towards improving your credit health.

KOHO Credit Building and Monitoring

Navigating the world of credit scores can be overwhelming, but KOHO is here to make the journey smoother and more understandable.

KOHO’s credit building service is designed as a user-friendly and accessible tool for anyone looking to improve their credit score, whether you're just starting out, repairing credit, or looking to maintain a strong score.

In addition to helping you build credit, KOHO is excited to introduce an upcoming feature for monitoring and tracking your credit score. This new option is a proactive approach to credit management, allowing you to stay informed about your credit status and understand how your financial decisions impact your score.

If you take your credit score seriously, you must check out KOHO’s guides and services. Staying on top of your credit score and understanding how to improve it are crucial steps in managing your finances.

With KOHO's forthcoming credit monitoring feature, you'll have a convenient and efficient way to keep a close eye on your credit health, helping you to stay on the path to financial success.

Note: KOHO product information and/or features may have been updated since this blog post was published. Please refer to our KOHO Plans page for our most up to date account information!

Courtney Johnston

Courtney is a professional writer, editor and financial literacy enthusiast. You can find her writing on CNET, Investopedia, The Motley Fool, Yahoo Finance, MSN and The Balance. She spends her free time exploring different cities across the globe or enjoy some downtime with her two cats and one dog.