Variety is the spice of life! This is true when it comes to your finances, and especially your credit. Having a healthy mix of credit accounts in your name is a great way to showcase your money management skills. Your credit mix also impacts your overall credit score. This begs the question: what is a credit mix?
Your credit mix refers to the various types of credit accounts that make up your credit report. Some types of accounts that make up your credit mix include student loans, credit cards, car loans, and mortgages. Your credit mix is one of the factors that credit bureaus use to calculate credit scores. Overall, your credit mix accounts for about 10% of your credit score.
Credit bureaus use credit mix as a factor when calculating credit scores because it indicates whether the user can manage various accounts over time. A healthy credit mix, along with a history of on-time payments, tells borrowers that you have the financial management skills to handle a variety of credit products and make regular payments towards them.
There are four main types of credit accounts that could appear on your credit report. In particular, revolving credit and installment credit accounts have key differences that you should be aware of. Here’s a breakdown of the four types of credit types in Canada.
Revolving credit is a credit account with a maximum limit that you can borrow from as you please. You can use funds from a revolving credit account to make purchases or pay bills. You’re expected to pay back the amount of money you withdrew, plus interest. You can either make a single payment in full or minimum monthly payments to cover the amount you borrowed. Repaying a borrowed amount makes that amount available to be borrowed again at a later time. Common examples of revolving credit include:
- Credit cards
- Personal lines of credit
Unlike revolving credit, an installment loan is a lump sum of money that you borrow to use as you wish or towards making a larger purchase. You pay back the money you borrowed in fixed payments over a specific period of time. Installment loans usually have a monthly payment that includes both the principal and interest portions of the loan. When your loan is repaid, the account is closed and is no longer considered active. Common types of loans include:
- Personal loans
- Car loans
- Student loans
A mortgage is a type of installment loan, but it is applied exclusively to real estate purchases. This type of loan also involves borrowing an amount of cash, this time to purchase a property. You make monthly payments on the principal and interest until the amount is repaid in full, or you sell the property and repay the remaining balance in a lump sum.
An open account is also known as a service account and involves receiving a service before paying for it. An example of an open account is an electricity bill. When you receive an electricity bill, you are billed for your previous billing cycle’s usage. Other common examples include:
- Mobile phones
- Water bills
What is the Optimal Credit Mix to Boost my Credit Score?
To optimize your credit score, you should have at least two types of credit accounts on your credit report. Most Canadians find themselves easily having three or more types of credit with a standard financial arsenal. This usually includes a credit card, a cell phone account, and a car loan or student loan.
If you don’t have many different credit types, don’t stress too much about it! Your credit mix only makes up about 10% of your overall credit score, and opening too many new accounts exposes you to the risk of not keeping all accounts in good standing. Your repayment history makes up a much larger portion of your credit score (about 35%), so opening too many accounts and not maintaining them can have a net negative effect on your credit score.
Be Careful When Increasing Your Credit Mix Too Quickly
If you decide to increase your credit mix, don’t open too many accounts all at once! Each time you apply for a new credit account, your lender makes a hard inquiry on your credit report. Each hard inquiry gets recorded in your credit report and causes your credit score to temporarily drop.
Too many hard inquiries can be a problem when you try applying for credit in the future. Lenders will see all the hard inquiries on your credit report and think you’re in desperate need for cash! If you plan to apply for new credit types, it’s a good idea to spread those new products out over several months to reduce the number of hard credit inquiries within a given period.
There are other ways that new credit accounts could impact your credit score. Opening new accounts will bring down the average age of all your credit accounts, which can cause your credit score to decrease. Managing many new accounts could also impact your repayment track record. By applying for one new credit product at a time, you’ll have an easier time monitoring your credit score and managing your different monthly payments.
What is Not Included in a Credit Mix?
Not every financial product is included in your credit mix. Products that aren’t part of your credit mix include:
- Prepaid visa debit cards
- Chequing accounts
- Payday loans
- Title loans
- Investment accounts (such as RRSPs and TFSAs)
The products above won’t help you increase your credit score. That said, if you default on a payday loan or title loan, those missed payments will still be reported to the credit bureaus and will always impact your repayment history. Missing payments on all financial products will lower your credit score, so it’s essential to make payments on all types of credit and debts faithfully.
The Bottom Line
Of the five main factors that impact your credit score, your credit mix holds the least weight, making up only about 10% of your overall credit score. That said, your credit mix is easy to optimize with a few commonly used financial tools. If you are looking to raise your credit score, adding a few credit products to reach an optimal credit mix can be an easy win and improve your credit score by several points.
The critical thing to remember with this strategy is that you need to prove you can successfully manage a diverse mix of credit products and make your payments faithfully. Otherwise, adding new products may do more harm than good.