Highlights:
Your credit scores predicts the likelihood that you will pay their bills as agreed
Your credit is used to determine your creditworthiness
Payment history, the amount of credit you’re using, and the length of your credit history are factors included in calculating your credit scores - We refer this to the Rule of 2.
Credit scores are intended to help manage your financial risk and help lenders make fair decisions on whether or not to “take a risk” on you. The risk might involve giving that person a loan opening a credit card or an application for a rent on an apartment and will you make the payments.
While your credit score is important, it is only one of piece of information an organization will use to determine your creditworthiness. Example, a mortgage lender will want to know your income and how long you have worked there, as well as other information in addition to your credit score before it makes a decision.
What's involved in calculating a credit score?
Your payment history
Your used credit vs. your available credit
The length of your credit history
Public records
Number of inquiries into your credit file
If you look at your credit scores based on data from both national credit reporting agencies – Equifax and TransUnion – you may see different scores. This is completely normal as each credit bureau has multiple scoring algorithms. Lenders typically request only one agency to make a decision.
Here is a breakdown of how your credit is reviewed.
Payment history: ~35% Your credit history includes information about how you have repaid the credit that has been extended on credit accounts such as credit cards, lines of credit, retail department store accounts, instalment loans, auto loans, student loans, finance company accounts, home equity loans and mortgage loans. Your cell phone bill is also included on the credit reports.
In addition to reporting the number and type of credit accounts that you’ve paid on time, this also includes details on late or missed payments, public record items and collection information.
Credit scoring will look at how late your payments were, how much was owed, and how recently and how often you missed a payment. Your credit history will also detail how many of your credit accounts are delinquent in relation to all of your accounts on file.
Example, if you have 10 credit accounts (known as “tradelines” in the credit industry), and you’ve had a late payment in 5 of those accounts, that ratio will impact your credit score.
Used credit vs. available credit: ~30% Your credit score will review how much of your available credit is being used on your credit cards, as well as any other revolving lines of credit.
A revolving line of credit is a type of loan that allows you to borrow, repay, and then reuse the credit line up to its available limit.
Credit history: ~15% This refers to how long your credit accounts have been in existence. The credit score calculation typically includes both how long your oldest and most recent accounts have been open. In general, creditors like to see that you’ve been able to properly handle credit accounts over a period of time. They general rule of minimum 2 years and some lenders would like to see 3 years.
Public Records: ~10% Those who have a prior history of bankruptcy or consumer proposal, or have had collection issues or other derogatory public records may be considered risky. The presence of these on your report will have a significant negative impact on a credit score.
Inquiries: ~10% Anytime an individual’s credit file is accessed for any reason, the request for information is logged on the file as an inquiry. Inquiries require the consent of the individual and some may affect the individual’s credit score calculation. The only inquiries which may impact a credit score are those related to active credit seeking (such as applying for a new loan or credit card). These inquiries are known in industry as “hard pulls” or “hard hits” on your credit file.
These hard inquiry may be the leading indicator, of the first sign of financial distress that appears on the credit file.
Not every inquiry is a sign of financial difficulty, and only a number of recent inquiries, in combination with other warning signals on the credit file should lead to a significant decline in a credit score.
Your credit score does not take into account requests a creditor has made for your credit file, or inquiries of your own request for a copy of your credit history. These are referred to as "soft inquiries" or "soft pulls" of your credit.
It is up to keep a watch on your credit and is recommended to have a credit review at least once a year.
Information in this report credited to Equifax Canada.
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