When it comes to buying a house – and working out exactly what you can afford – it’s easy to get fixated on your income, the down payment amount, and the home’s price. And while those are all undeniably important, there’s another factor that can be just as critical to the house hunt – your credit score.
A credit score is a three-digit figure that, in a general sense, measures how reliable you are with money and meeting your financial obligations. Banks and mortgage lenders look to your credit score to assess whether you can be trusted to consistently make your mortgage payments on time.
If your credit score is low, it could hurt your chances of securing a good interest rate or your ability to be approved for a mortgage in the first place. Even a few dozen points can mean paying several hundreds of dollars extra in mortgage payments every year.
Since credit scores are so important to the home buying process, we outlined some common credit mistakes you’ll want to avoid as well as some steps you can take to improve your score if it’s not currently where you want it to be.
Top credit score mistakes to avoid
Missing a payment
Your credit score is a numerical representation of how reliable you are at managing credit and debts. It should then come with little surprise that paying your debts late (or missing payments altogether) will hurt your credit score substantially.
Your payment history accounts for an estimated 35% of your total credit score and missing even just one credit card bill for example can ding your score by several points – not to mention you’ll accrue interest for carrying a balance.
Closing your oldest credit card account
The longer your credit history, the better. The reason why boils down to the fact that financial institutions prefer lending to people who have a longer financial track record. After all, experience matters.
It’s with that in mind you’ll want to avoid closing your oldest credit card account (even if you rarely use it anymore) as you can risk reducing your credit history length, and in turn, your credit score. The good news is the first card you were approved for is likely a no fee credit card, which means it won’t cost you anything to keep it.
Having a high credit utilization ratio
While it may sound complicated, credit utilization is really just a jargony way of referring to the amount of your total credit limit you use. For (a simplified) example, if you have a credit card balance of $500 and your card’s credit limit is $1,000, then your credit utilization is 50%.
As a “best practice” you’ll want to run a balance that’s less than 30% of your card’s credit limit. Any higher, and you could hurt your credit score – even if you’re paying off your balance in full and on time. Lenders generally don’t like it when you use a high percentage of your credit limit because it can suggest you’re more likely to default on your payments and that you’re over reliant on credit.
Not having a credit card
While avoiding credit cards may seem like a financially prudent idea, it’s a position you’ll want to reconsider. The fact is credit cards represent one of the easiest and most accessible ways to build your credit score.
Your activities on a credit card are reported to credit bureaus, and by using a card responsibly and paying back your statements on time every month, you’ll establish a positive payment history and build up your score over time. By paying off your balance in full every month, you also won’t incur any interest charges – so it won’t cost you anything if you use it right.
By opening a credit card for the first time, you’ll also help to diversify the type of accounts on your credit report and improve what’s known as your credit mix. That’s a good thing, because credit bureaus want proof that you can manage multiple types of debt at the same time.
On top of the ability to build your score, you can often earn rewards through a credit card. The best travel credit cards in Canada, for example, offer points for every dollar you spend that let you save on travel-related expenses like flights, while the best cash back credit cards provide a percentage of all your card spending back to you. If you’ve chosen to avoid credit cards thus far for fear of overspending, you can opt for a credit card with a low limit, only use credit for recurring purchases, and even leave your credit card at home whenever you plan on shopping.
Applying for too much credit at the same time
Every credit application you make – whether it’s for a credit card or personal loan – will result in a hard inquiry on your credit report. That means you’ll want to be strategic whenever you’re applying for new credit and avoid making multiple applications in bulk.
How to fix a low credit score
While there’s no quick hack that’ll cause your credit score to instantly surge from “bad” to “great”, with some diligence and by taking a few progressive steps, you can change your credit score for the better.
Pay your bills on time
While this may seem like a simple enough rule to follow on paper, it can be surprisingly easy to lose track of all your bills due dates – especially if you’re juggling multiple payments every month like credit card statements, rent, a car loan, and more. It doesn’t help that each of your bills likely have their own due dates that fall on different days of the month.
We personally recommend setting up email notifications or using a money-management app to monitor all your bills to ensure you’re always on top of your finances and never miss a payment. As highlighted above, how regularly you make payments on time accounts for 35% of your credit score, and even missing one payment can ding your score by several points.
Review your full credit report
Have you been diligently making your payments on time every month but still have a low credit score? You may want to check your full credit report, as there may be inaccuracies tied to your account that are needlessly dragging down your score.
Both of Canada’s major credit bureaus, Equifax and Transunion, will send your full credit report by mail for free upon request which you can then review in detail. If there’s wrong or missing information, you can file a written dispute and have your information corrected. If your dispute is justified, credit bureaus will take steps to update your credit report, and, depending on the nature of the change, this can help increase your credit score.
Improve your credit utilization
When it comes to your credit card, you generally want to avoid regularly accruing a balance that’s 30% of your total credit limit. This ties back to your credit utilization ratio and the fact that lenders don’t like it if you use up too much of your card’s limit at any one time.
The fastest ways to improve your credit utilization ratio is to either limit your credit card spending to less than 30% of your card’s limit or increasing your credit limit. You’ll only want to consider the latter option if your card issuer offers a credit limit increase without a credit check, which can often happen if you have a track record of making payments on time or you were offered a credit limit increase in the past but chose to reject it.
Consider a secured credit card
If your credit score is below the 600 mark, you’ll have trouble being approved for most credit cards (much less a mortgage on a new house), and you’ll need to take some considerable action to improve your creditworthiness.
One of the most effective ways to rebuild your credit score is to use what’s known as a secured credit card. These credit cards are for people with bad credit and virtually anyone who applies for one is guaranteed to be approved under the condition they provide a security deposit.
By using a secured credit card responsibility and paying your balance off on time and in full every month, you can rebuild your payment history, and in turn, your credit score. Down the road, that can mean having a score that’s good enough to be approved for a mortgage.