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What Affects Credit Score in Canada

To make significant purchases like another home or a new car, you will need to consider your credit score. Lenders and banks look at this score to determine your creditworthiness in repaying them. If you’ve taken out loans in the past or have at least one credit card, you are probably thinking about the current status of your credit score and if you qualify for a larger loan.

To truly understand the number that represents your score knowing the different types of debt, which are secured, unsecured, revolving, and installment, is necessary. While four main categories of debt exist, their individual effects on a person’s credit score don’t have a much variation. Generally, staying on top of your payments leads to a good credit score, regardless of what kind of debt it is.

debt affects credit score

Types of Debt

Student loans, mortgages, and credit card purchases are all considered debt, but they actually are classified into different categories. The four main categories of debt are secured, unsecured, revolving, and installment. Let’s look at each one in more detail and explore what they do to your credit score.

  1. Secured Debt
    A collateral, usually a piece of property, supports secured debt. The most common items of collateral are cars and houses, but in some cases, a collateral can be any asset, which can also be a definite amount of monetary value. The reason why the debt is referred to as secure is because from the lender’s point of view, the risk is reduced. Even if the borrower fails to recompense, the lender has peace of mind that they will still receive what they’re owed.One type of secured loan that many people take on is a home equity loan. Home equity loans have lower interest rates and allow borrowers to obtain more funds because houses naturally have higher value, especially in Canada. More on home equity loans will be covered momentarily.
  2. Unsecured Debt
    After having a look at secured debt, you might be able to assume what an unsecured debt entails. In reality, there is no guaranteed security for the lender. The typical unsecured debts that people think of include student loans and medical bills, and receiving loans towards these means that the lender found your creditworthiness to be decent.If you prefer unsecured loans, proving your trustworthiness is essential. Customarily, lenders will look to run a background check on your credit. The better your history and credit score is, the higher your chances will be to be approved for an unsecured loan.
  3. Revolving Debt
    Revolving debt is the constant cycle of borrowing and paying back for a predetermined term, and this kind line of credit can be either secured or unsecured. An example of an unsecured revolving debt is credit card debt, while a secured one is debt from home equity lines of credit (HELOCs). In both instances, the borrower has set credit limits that they are allowed to borrow up to, but they should not wait until they hit the maximum to pay back.
    The expectation is that the borrower pays back what they borrowed monthly. For credit cards, the minimum that you have to pay is usually just the interest, but only paying the minimum may not be constructive for your credit score in the long run. The sooner you pay back what you borrow, the more beneficial for your credit score.
  4. Installment Debt
    The final type of debt is installment debt, which can also be called non-revolving debt. Just like revolving debt, installment debt can be both secured and unsecured. Mortgages, auto loans, and personal loans are installment loans, in which you can be given a lump sum at the onset of your loan. You will have to repay within a certain amount of time, but they are usually monthly payments.

Depending on what kind of loan you obtained, the return term can vary. For one, mortgages, which can have a term between 15 to 30 years, are far longer than auto loans. Mortgages are also the most common type of installment loan and therefore have more variation in the way they present themselves.

How Different Debts Affect Credit Score

Whether it is credit card debt or mortgages, the way you handle your debts is the determining factor that affects your credit score. What you want your credit score to be is certainly in your control, and it’s important to know how to truly place it in your control.

How to Build Credit Score in Canada

A common question that people frequently ask is if their credit score can be raised. You absolutely can enhance your credit score. As you continue to meet your responsibilities, you’ll see your credit score rise. Credit scores can’t ascend overnight, but as long as you are satisfying the requirements, you will start to see improvements and the credit score you wish to achieve.

  • Make punctual payments
    This task is applicable to all four types of debt. In every case, you will be expected to repay a certain amount and the interest at specified intervals. Be mindful of the dates that your payments are due because paying on the due date or even before the date will have positive effects on your credit score.
  • Maintain a good history
    The longer you’ve had your credit card(s) for, the more opportunity to have to build your credit. While any type of debt is applicable to build good history, revolving debt should be your most central focus when developing good credit history. If you have multiple credit cards and you have a good rapport with them, your credit history will be good and so will your credit score.
  • Mix credit sources
    Having different lines of credit can impact your credit score in a good way, as long as you are conscientious of your payments. With multiple sources of credit, you build your creditworthiness with lenders, proving your ability to take on more loans, and therefore raising your credit score.

Why did my credit score drop?

While it’s important to know how to build credit score in Canada, it’s also important to know what can bring it down. Parallels from the same details in how to build your credit score can also be discussed in the reason why you saw a drop in credit score.

  • Missing payments
    Sometimes a payment is missed, not because of the inability to repay, but because of simply forgetting that reimbursement is due. Regardless of the reason, late payments reflect poorly on overall credit ratings, so it’s important be attentive of upcoming due dates.
  • Using more than 30% of available credit
    Do be mindful of how much you are spending relative to your credit limit. Spending over 30% of your credit limit can hurt your credit score, even with the capability of paying it off. This is also why you should take advantage of the offers that banks give you to increase your limit.
  • Applying for loans
    Checking your credit score immediately after you are approved for a loan or after you take out a personal loan may result in a lower credit score. Because suddenly you have additional outstanding debt, the drop is only natural. As long as you meet all the terms of the agreement, a loan could be beneficial to your credit score in the end.

Mortgages and Credit Scores FAQs

In short, a pre-approval does affect credit score, but depending on the type of inquiry that you make, it will allow you to see a change in your credit score. Pre-approvals have two types of inquiries, which are a soft inquiry and a hard inquiry. A soft inquiry won’t influence your credit score because only applicants see it. Soft inquiries demonstrate that you are verified to receive extra credit. On the other hand, lenders can see if you’ve made a hard inquiry, and it could bring a credit score down by five points. It may not be a lot, but depending on your financial circumstances, that could be the difference between a fair credit score and a good credit score.

Since July 1st, 2020, the Canadian raised the standard for getting a mortgage. The minimum credit score required for a mortgage went from 600 to 680, which is a significant escalation. Despite the minimum being 680, it would be better if an applicant had a score of over 700. Having a score substantially above the minimum increases a person’s chance of approval at the bank. Don’t despair if you find that your credit score is less than the minimum, because you certainly still have options.

Getting a Home Equity Mortgage with Alpine Credits

Whether you have only one type of debt or all four, you’re certainly in the same boat as other Canadians. At this point, it’s normal to carry a certain amount of debt. Despite this, many traditional lenders still hold high expectations for those who want to get a mortgage. Even those with decent credit scores still run the risk of not getting approved.

With Alpine Credits, your credit score does not affect your approval. The recognizable banks of Canada place a lot of priority on a person’s credit score, but at Alpine Credits we only consider your house’s equity. As long as you own a home, approval is right around the corner. The Financial Solutions Specialists on our team are here to walk you through options that are tailored specifically to your financial situation. Connect with us through our application; our team would love to discuss what loan opportunities are available to you.