Building good credit after a financial setback is not an easy task. While it can be tough to sort through all the information available, challenging your assumptions is a good place to start!
Look out for these credit score myths that might set you back if you’re trying to get your financial house in order.Credit Score Myth #1: Carrying a credit card balance will help your credit score
Carrying a credit card balance does not help your credit score. In fact, those that intentionally carry balances hurt their scores. The reason for this lies in the understanding of something called the credit utilization ratio.
The credit utilization ratio is the amount of money you owe compared to the total amount you can borrow. This ratio makes up roughly 1/3 of your credit score. The higher your ratio, the more it can hurt your score.
For example, let’s say you have two credit cards:
- A $500 credit line, owing $100.
- A $1,000 credit line, owing $100.
Your credit utilization ratio works out to about 13% ($200/$1500).
As you charge more purchases to your credit cards, the ratio would increase; owing $1000 on $1500 of available credit would bump up the ratio to 66%. Higher ratios may lead lenders to question your ability to pay back your loan and be responsible with credit.
Paying down balances on credit cards quickly is a smart way to protect your credit utilization ratio and increase your credit score.Credit Score Myth #2: Late payments won’t hurt your credit score.
From landlords to phone companies, creditors will report your payment history to the two credit bureaus in Canada: Equifax and TransUnion.
Banks regularly report accounts closed with a negative balance and late payments on credit lines. Past-due utility bills, unpaid traffic fines and parking tickets can also show up as negative items on a credit report and hurt your score. Those negative items could hang around for seven years, so even one small unpaid bill can do a lot of damage.
It’s important to pay all your bills on time to build a solid payment history and boost your credit score. If you have bills past due, contact the companies you owe to make payment arrangements. In some cases, you may be able to negotiate a lower payment amount or break up the total amount due into several smaller payments that fit into your budget.
When possible, setting up automatic bill payments can simplify the process and avoid the harsh penalties.Credit Score Myth #3: Having a low credit score means you can’t get a loan or new credit card
Those with credit scores below the mid-600s are considered “subprime” in the lending industry. Many financing companies specialize in extending credit to people with subprime scores.
Better credit scores mean lower interest rates and better terms, so you should aim to make every payment on time to help build your credit score.The Bottom Line
Believing in these credit score myths will hurt your credit score and can even ruin your ability to get a loan.
To raise your credit score:
- Keep your credit utilization low.
- Keep payments on schedule.
- Read the fine print on different financial products.
Recovering from bad credit, raising your score, and getting back on the road to good financial health takes time. While the journey might be a work in progress, the future reward of lower interest rates and more flexible financing options are well worth the effort.
About The Author
Daniel Teo is a personal finance expert and travel writer for Urban Departures in Toronto. With a passion for financial literacy and a wanderlust that has brought him to over 30 countries, his stories reveal what can be achieved with good financial habits. Urban Departures has appeared in The Globe and Mail, the Toronto Star, CBC and on BNN. Connect with Daniel and Urban Departures on Instagram and Twitter.