When people are looking to buy a new car, they typically put all their focus on the car itself. Makes sense, right? You want to make sure you pick the right vehicle with all the bells and whistles. But, if you’re actually going to bring it home, it’s important to put just as much focus on your credit score.
Generally speaking, the higher your credit score the more favorable the interest rate and term of your financing will be. Don’t know what a credit score is? Don’t worry. In this article, we’ll tell you all about it, show you how to check your score for free, and how to improve it before you apply for a loan.
What’s a credit score, anyway?
Every Canadian has a credit score between three-hundred and nine-hundred. The higher that number, the better your score and the stronger the indication to potential lenders that you’re creditworthy. That’s because a high score shows that you have a history of making timely payments, helping lenders feel more comfortable when they extend you some funds.
If you haven’t done so already, check your credit score for free with Borrowell to see how you’re doing.
How Your Credit Score is Calculated and How to Improve it
Nothing about your credit score is random. It’s based on five different factors with different weights attributed to each. Once you understand how these factors work, you can take steps to improve them and raise your score.
Your payment history counts for a whopping thirty-five percent of your credit score. It makes sense considering that lenders want to see that you’re constantly making payments on time. Keep in mind that your payment history doesn’t just apply to credit cards and loans, some recurring bills for things like cell phone service also get reported to the credit bureaus and help to establish your credit history.
The amount of credit you’re using in relation to how much you have access to forms your credit utilization and counts towards thirty percent of your score. Let’s say you have a credit limit of $5,000 and you consistently maintain a balance of $4,000; your card will be eighty percent utilized. Even if you pay that balance off every month, lenders may still be concerned that you’re constantly carrying a high balance.
But, fear not, lowering your utilization is easy. You could avoid charging as many things to your credit card or ask your lender for a credit limit increase. As an example of this - if your credit card provider doubled your credit limit to $10,000, your utilization would instantly drop down to forty percent (much more reasonable than eighty). A good rule of thumb is no more than 50 to 60% utilization on any credit card.
Credit History Length
As soon as you get a cellphone contract under your name or get your first credit card, you establish a credit history. That’s a good thing. Lenders want to see that you’ve had access to credit for some time since it counts towards fifteen percent of your overall credit score. Some people get caught off guard by this since they’ve always had their services under their parents or a spouse’s name. Only the primary cardholder or the main account holder gets their credit history reported, so it might be a good idea to get a credit card if you haven’t established a credit history yet.
New Credit Applications
Whenever you apply for a new line of credit, your score will drop by about ten points. When lenders are processing your application they want to see if you’ve made a bunch of applications recently. This only counts for ten percent of your credit score, but you still don’t want to make a bunch of applications around the same time because lenders will wonder why you’re applying for so much credit.
Types of Credit Used
Finally, the types of credit you’ve used counts for ten percent of your credit score calculation. Some types of accounts are better for credit than others. For example, a well-paid loan will build your credit more quickly than a well-paid credit card. This is because you have to make a regular payment every month for a loan however if you don’t carry a balance on your credit card you might have no payment to make at all. Lenders do like to see that you have a mix of different types of credit.
How Your Credit Score Affects Your Car Loan
As mentioned above, a higher credit score will likely get you a better interest rate and term when you’re financing a new vehicle. It’s important to note that every lender has different criteria when deciding what rates to offer, but a good credit score definitely works in your favor.
Statistics show that the average credit score of people buying a new car with financing was seven-hundred and eighteen. Those buying a used car had an average of six-hundred and fifty-nine. Just because you have a low credit score, it doesn’t mean you can’t get access to auto financing. You may have to pay a higher premium than you planned since lenders are taking a risk by extending your money.
Although car dealers have financing options available, you’ll want to shop around for loans to see if you can get better rates. If you’re purchasing a used vehicle and require financing, you’ll need to shop around. Remember, you can get pre-approved for a loan before you buy and see exactly what you can afford and what your payments will look like.
What does good financing look like?
Generally speaking, the lower the interest rate you’re offered, the better off you’ll be. That said, you’ll also need to factor in the length of the term. For example, a rate of four point two percent for five years is better than four percent over seven years because you’ll always pay less interest over a five-year term. Extending the term lowers your monthly payments but means you’ll pay more interest over that period.
The good news is that all auto loans are open, which means you can make extra payments, or even pay the loan off in full at any time you like with no penalty. The more quickly you pay the loan the less interest you end up paying. Also, consider the price of the vehicle. Getting a good interest is nice, but if you’re financing a car that’ll blow your budget, you may run into some serious cash flow issues. Lenders generally won’t allow you to pay more than fifty percent of your gross monthly income on a car loan, but the lower you can get that the better for you to maintain a safe cash flow to be able to not only maintain your other expenses every month, but also have a little wiggle room for the unexpected.
Ready to take the first step towards a better credit score? When you are, Car Loans Canada is here for you. Fill out an application online to see what you can qualify for today.