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You don’t think about your credit rating opening doors for you—until it abruptly swings one shut. However, in order to appreciate what you could do differently to improve your credit rating, it helps to understand what exactly that is.
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Your credit rating is actually made up of two parts of information—your credit report and your credit score—and each plays a specific role. Along with some personal information (your name, address, birthdate, employment details and when you last applied for credit), your credit report contains a list of companies that have inquired about your credit history, and that you’ve obtained credit from. This list of your credit obligations shows how you use credit on an ongoing basis, including when you opened the account, your credit limits, the outstanding balance, if you pay on time, how often you make late payments and if anyone is joint on the account. If any of your debts are in collections, they will show in a different part of your credit report with more detail.
If you’re curious to see what’s on your own credit report, take a look. In fact, everyone should check their credit reports (yes, you have two of them in Canada) once a year for accuracy. You can get your credit report for free (and you might be surprised by these 7 things that are not on your credit report).
As strange as it may sound, your credit score is not on your credit report. Your score is only needed when you apply for credit, and it is based on what is on your credit report at that minute. Your score is actually a ratio that indicates to a potential lender how likely you are to repay any new loan they give you, based on how you’ve handled credit in the past. For example, if your score is 680, that tells a lender that for every 680 out of 900 people whose situation is scored the same as yours, 680 are likely to repay the money they borrow. It stands to reason that the higher your score, the more likely a creditor will lend you money with favourable terms and conditions. As such, your credit score is very sensitive to changes in your financial situation and in how you use credit.
Avoiding these five credit card mistakes will give you less to worry about when it comes to your overall credit rating.
Making your payments late
Have you ever lent money to a friend, only to have to chase them down to get back what they owe you? Credit card companies are often in that same position—and while they might not feel like a friend, they most definitely want to be paid as you had agreed to do.
Late payments with credit cards will cost you big-time. In addition to interest charges at the current rate in your credit card agreement, depending on how late you pay and how often it happens, your interest rate can go up, fees could be tacked on and your balance owing can quickly grow out of control. In the same way compound interest (interest on interest) can be good for your investments, it can be terrible for your debt level.
The fix: Debt payments shouldn’t be something you get around to after spending on non-essential items—they should be your primary essential payment. Make a list of the payments you need to make each month and ensure you are able to pay the required amount using the money you have coming in (ideally more than the minimum, where applicable). Then, set up calendar reminders so that you make your payments on time. If you’re very disciplined, you could go a step further and set up automatic payments through your online banking system. By setting up the payment yourself, rather than allowing your credit card company to take the payment on your due date, you maintain control over your bank account should an unexpected expense, like a car repair, come up.
Using too much of your available credit
A close second on the list of credit card no-nos is using more than about 75% of your available credit on an ongoing basis. This means that if your credit card’s limit is $5,000, try to keep the amount you owe at less than $3,700, even if you are “just” collecting points or if you pay it off in full every month by the due date.
The reason for this is simple: The more you owe, the more trouble you would have paying it off should something unexpected happen to your source of income. When we apply for credit, the application is processed using our gross (before-tax) income. When we use the credit granted to us, we only have our net (after-tax) income, which is considerably smaller, to work with.
The fix: We know what you’re probably thinking—but not so fast. Raising your credit card limit is fine only if you can afford it and if you don’t plan on applying for additional credit any time soon. When you apply for credit, lenders know there is only so much you can afford to repay. They reduce how much they’re willing to lend you based on the overall limits of credit products you already have. For example, if it’s a mortgage or car loan you’re applying for, you might be offered a smaller amount of principal than you requested if you have too much other credit available, meaning that you’ll have to house or car shop at a price point lower than you’d anticipated.
The real fix is working on paying off your debt so that sticking to below that 75% usage mark on each credit card still lets you buy what you need, and a few well-considered things that you want.
Treating your credit card like an ATM
Did you know that if you take a cash advance from your credit card, the interest rate is higher than if you charge items to your card at a point of sale? What’s more, there is no interest-free grace period with cash advances (interest is charged right away), you don’t collect reward points on cards that have a loyalty program, and you might even have a limit for how much cash you can take versus charging purchases within your overall credit limit. Taking cash advances can also signal to potential lenders that you have a cash-flow problem with your household budget.
The fix: The simple answer is not to do cash advances on your credit card. If you didn’t realize how they worked, check your credit card terms and conditions to find out more, because each card can be a little different.
However, if you routinely find yourself falling short with expenses that must be paid in cash (for example, daycare or rent), it’s time to take a serious look at your budget; your credit rating might be the least of your worries. You likely need more help with your money and debts than this five-point tip list. You can get more information and some guidance by contacting a non-profit credit counselling organization in your area.
Applying for more credit cards than you need
Have you ever applied for a credit card at the till to save 10% on your purchase, or walked through a store and filled out an application to get the free gift? Every time you apply for credit, an inquiry is registered on your credit report. While a few inquiries at different points in your life are only natural, and acceptable, continually shopping for credit is not.
When you apply for a lot of credit cards in a very short period of time to see what you might get approved for, that is considered shopping for credit. All of the inquiries work against your overall credit rating and, worse, the credit cards granted to you can lead to an unaffordable amount of temptation spending.
The fix: Apply only for what you need and can afford. Accurately determining what you can reasonably manage requires a household budget that accounts for all of your monthly, occasional and annual expenses; long-term savings; and debt payments and obligations.
Paying your credit card off too fast
Is that really a thing, paying credit cards off too fast? It certainly can be. If you are worried about getting into debt with a credit card you might decide to pay it off as soon as you use it. From a money management perspective, that works; however, in terms of using the credit card to build a credit rating, you’re not doing yourself any favours.
The fix: Wait until the bill comes and pay it in full before the due date each month. This allows the credit scoring system to see that you’re using the card, and by paying it off before the due date you aren’t charged any interest.
There are a few ways to ensure that you have the cash ready to pay your bill. One is to set up a separate bank account for payments. Rather than paying off your credit card immediately, transfer the money directly to the separate account. Then, when the bill comes, you’ve got your payment ready.
A second easy way to use a credit card and not end up in debt is to pre-authorize a recurring bill payment to your card (for example, a monthly subscription) and then tuck the card away at home. This way, you’ll know how much of a bill to expect every month, you can account for it in your budget, and you could even set up a recurring credit card payment from your bank account to ensure it’s paid on time every month. If you want to build or rebuild your credit rating with a credit card, it’s essential to use the card, but you don’t need to use it a lot.
If you’re concerned that your bad credit is hurting you, just be aware that there is no “hack” for fixing a credit rating fast. So rather than worry about what you can’t control, focus on what’s within your control and on what you can change. It’s never too late to establish a spending plan or break up with your credit cards for a few months to help yourself get on track again.
Scott Hannah is the President and CEO of the award-winning, non-profit Credit Counselling Society, which has helped more than 600,000 Canadians since its inception in 1996.
This article was originally published on Oct. 1, 2019, and updated on Oct. 26, 2022.
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