Build Your Credit
A credit report is a report that shows how you’ve handled your financial responsibilities.
- Do you pay your debts on time?
- Have you gone over your credit limit on your credit cards?
- Do you have any items that have gone into collections?
- Have lenders written off amounts they have lent to you?
Financial institutions, credit card companies, retailers, finance companies, etc. report to credit reporting agencies on a regular basis. The credit reporting agency gathers the data and using a formula (developed by Fair, Isaac, & Co.) generates a credit report and a credit score that is commonly referred to as a FICO score. In Canada, the most recognized credit reporting agency is Equifax. Equifax calls their score a “beacon score”.
Beacon scores range from 300 to 850, however, most scores fall in the 600s and 700s.
Many lenders group beacon scores into different categories and may even have different rates for each category. For example, to get the best rate, your beacon score should be in the mid to high 600s. Lenders will refuse to lend if the beacon score is too low, because history shows that they will have a difficult time getting repaid.
How is a Beacon Score Calculated?
Five categories are analyzed to create a beacon score. Each category is assigned a weighting percentage that shows how important the category is to the final score.
The five categories with their assigned percentage weightings are:
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Payment History 35%
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Amounts Owed 35%
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Length of Credit History 15%
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New Credit 10%
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Types of Credit Used 10%
Payment History
The Payment History category is an important one at 35%. The category provides information on:
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the specific types of accounts held
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any adverse public records (bankruptcy, collection items, wage assignments, lawsuits, liens, etc.)
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the severity of any delinquencies
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accounts paid as agreed
Amounts Owed
The Amounts Owed is another significant category with a weighting of 35%. It provides information on:
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Amount owing on accounts
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Amount owing compared to original amount borrowed
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Percentage of credit available compared to credit in use
Length of Credit History
The Length of Credit History has less importance than the previous two categories. It’s importance towards the beacon score is 15%. It provides information on:
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How long the account has been open
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When was the last activity on the account
New Credit
This category is rated at 10%
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Number of recently opened accounts
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Number of recent credit inquiries
Types of Credit in Use
Types of Credidt in Use is also rated at 10%.
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The number of various types of accounts such as credit cards, finance companies, installment loans, auto leases, retail accounts.
The credit bureau’s beacon score is the result of the analysis of many different items, however, you must remember that the lenders main concern is always, “will I get repaid without incident?” Lenders can’t foresee the future, so they look to the past for an indication of how things will likely be handled.
The beacon score is important, but it is only one of the things the lender looks at. Lenders also look at many items not used in calculating the beacon score, such as, how long you have worked at your present job. What is your occupation? What is your TDS (total debt service)? What is your GDS (gross debt service)? What is your personal net worth? What is the LTV (loan to value) ratio?
If your beacon score is extremely low due to delinquencies, over the limit items, collections, etc. the lender may not even want to look further than the beacon score.
Sometimes there’s a logical reason for weak or poor credit. Bad credit is another story. Weak credit could be caused by many things, such as a health situation or hospitalization, a divorce, caring for a dying family member, or any other catestrophic situation, or even a bankruptcy due to a failed business. Many lenders will say, “so how have you handled things since the credit problem?” If there has been no attempt to fix the weak credit, the lender may regard it as bad credit (rather than weak credit). Financing people with weak credit can be done; financing people with bad credit is another matter. The good news is that credit can be repaired over time.
How can I Improve my Beacon Score?
A credit bureau score is recalculated continuously. Many lenders send a computerized month end report, so last month’s score may not be the same next month’s score. Items stay on your credit bureau for seven years, but as time passes, they have less weight attached to them. For example, a delinquency from last month will affect your credit score much worse than a delinquency from five years ago.
Pay your bills on time. Even if the amount seems insignificant to you, it will be recorded as a delinquency if it is not paid. Delinquent payments and items in collection have a major negative impact on your score. The longer you pay the bills on time, the better your score.
Keep balances on credit cards and other revolving credit accounts below 75% of the credit available. This is one of the quickest ways of improving your beacon score. High outstanding debt, in relation to the credit available can negatively affect your score. In fact, even if you max out your card each month AND pay it off in full each month, the credit report, depending on the timing of reporting and payment, may indicate a maxed out card each month. It would be better to get a 2nd card and spread out your expenses between the two cards . . . and pay off each card every month.
Don’t close unused credit cards as a quick fix to improve your score. In fact, closing unused cards, will increase your credit utilization percentage. This could actually lower your score.
Don’t apply for a number of cards in an attempt to lower your credit utilization. Remember, “New Credit” is a category used to calculate your beacon score. New credit lowers your average account age and could actually lower your score.
Manage your credit cards and loans responsibly. Credit cards and installment loans will actually raise your beacon score . . . BUT ONLY IF THEY’RE PAID ON TIME AND KEPT WELL UNDER THE LIMIT!!
For more information on beacon scores or to obtain your personal credit report contact http://www.equifax.ca