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How credit scores are calculated

 

Q: Hi Kyle, I have heard many different opinions about what I should be doing to improve my credit score. I heard that inquiries can hurt your score but another broker told me that it doesn’t. Could you clarify how this works?

A: Equifax is the major player in the credit bureau market, with Transunion sometimes also being used by some credit grantors to determine credit risk. Scores are between a 300 score and 900. Personally, I have yet to see a score below 430 and a score above 840. When it comes to obtaining a mortgage, the minimum for most “A” lenders is 600. If you are below this, you will need either a REALLY good story about why your credit has been damaged, or you will need to likely be going to a “B” lender, who are good for providing mortgages for 1-2 years to help you re-establish credit and allow you to qualify with an “A” lender in the future. The most difficult mortgage products to qualify for require a 720 beacon score, and most lenders require a minimum 650 or 680 score to have access to the best rates available.

Equifax graph to show you where you stand in relation to other Canadians

 

There are a number of different factors that can have an effect on your credit bureau. The most important ones are:

1. Are you paying your credit cards on time? If you are late more than 30 days, your credit score will take a hit. I have seen clients with 800+ beacon scores drop to 599 because of 2 missed payments on a credit card. Often, missing a payment by 30 days can have an effect of up to 100 points off of your score.

2. How much do you carry on your credit card balances? Once you have established good credit, it is best to pay off the card in full each month. When building credit, however, it ca be advantageous to use and carry a balance on the card. Try not to carry a balance over about 50% of the credit limit each month. If you frequently spend up to $10,000 on your credit card each month, try to obtain a limit of $20,000.

3. Do you have any judgements, collections or bankruptcy on your report? Sometimes I see clients with impeccable credit but have a glaring gym membership dispute that has hurt their credit severely.

4. How long have you had credit for? The longer the credit facility has been open and in good standing, the better score you are likely to have.

5. What type of credit do you have? It is good to have a good mix of credit cards, lines of credit, loans, etc. Different types of credit will report differently and have different impacts on your score.

The below graph will give you an idea of how each of these may affect your credit.

Remember that it can take up to 6 years for your previous history to be erased. But even if you have been bankrupt, if you can re-establish a good credit history (2 pieces of credit for 2 years, perferably $1000 or more limit) it is possible to get a mortgage through an “A” lender.

It is highly recommended that you check your score at least once a year. I always make it a point to advise my clients of what their score is, and how they may be able to improve it. You don’t want something as silly as a $3 disagreement between you and CIBC to severely affect your credit and cost you thousands in interest. Go to www.equifax.com to obtain your report. Spend the $20 to get the score that comes along with it.

I have materials that are a great read and go into further details about how credit scores are calculated, just send me an e-mail at kgreen@mortgagealliance.com and I would be more than happy to send it over to you.

3 Comments on this article

  • Ben August 5, 2011

    Hi Kyle, would you mind answering a credit score related qurestion? My thanks in advance.

    I have an account that was charged-off in 1990 and that still appears in my credit report. I can easily dispute this item and remove it since it became delinquent 21 years ago. However, this account happens to be my oldest one as well. My next oldest account is from 2005, only 6 years old.

    The question is this: Should I go ahead and remove this item from my credit report? Or should I keep it because it provides for a longer credit history and therefore outweighs its negative effect?

    Thank you. I would appreciate any answers.

    Reply

    • Kyle Green August 15, 2011

      Hi Ben,

      If the account was charged off in 1990, it is odd that it still shows up. It must still be reporting for some reason, or the company that charged it off didn’t report it this way to the bureau agency.

      If this was written off, you don’t want this to remain on your credit report. Even though it is very old, the negative influence of the credit facility will greatly outweigh the benefit of having the credit reporting for as long as it has. Have it removed as soon as possible.

      Reply

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