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If you’ve ever had trouble getting approved for a loan or a new credit card then you might feel like you’re being targeted or like the system is set up to prevent you from getting the money you need when you need it. Given that your credit scores are reflective of how you’ve used credit in the past, it’s easy to see why some people believe that the credit score system is set up in a way to tie consumers to their debts and bad financial decisions for as long as possible.
In fact, some people believe credit scores are a scam, but is it true?
Are Credit Scores A Scam?
In order to understand whether credit scores are a scam or a legitimate system that is useful, you’ll need to know what are credit scores and how it works.
What Are Credit Scores?
A credit score is a 3-digit number that can range anywhere from 300 to 900. Good to excellent credit scores fall between 600 to 900 while bad credit scores fall between 300 to 559. Everything in between is considered fair credit.
Credit scores can impact your ability to not only access different credit products but also rent an apartment, or get a job. Lenders and other third parties will use it to determine the likelihood that you’ll pay your bills or debts on time.
How Are Credit Scores Calculated?
Your credit scores are calculated based on the information in your credit report. When lenders pull your report, the score they get will differ from what you see as the credit bureaus have developed multiple credit scoring models that they sell to the lenders. Depending on the credit scoring model used the credit score they see may differ from the one you see.
However, in general, there are five common factors used by most credit scoring models. The main difference is the weight attributed to each factor. For example, one credit scoring model may put more weight on the number of credit inquiries over your credit account age.
- Payment History (~35%)
- Debt-To-Income Ratio (~30%)
- Credit History (~15%)
- Credit Inquiries (~10%)
- Public Records (~10%)
Are Credit Scores A Scam?
Credit scores are not a scam, however, their efficacy is debated by some. The intended purpose of credit scores, as previously stated, is to help lenders assess a borrower’s risk. However, there are a few things about credit scores that may make it confusing and inconsistent:
Multiple Credit Scores
In Canada, you can have multiple credit scores, all of which may vary. In fact, there is no limit on how many credit scores you can have and they can vary due to a number of factors including:
- Different Credit Scoring Models – Every credit bureau, lender, and credit scoring company may place more importance on one factor than another. This causes credit scores to vary from the ones you see with the credit bureaus.
- Different Credit Reports – Not every lender reports your credit information to both credit bureaus. In fact, some may only report to one credit bureau, while others may not report to either one. The discrepancy between the two credit reports can also cause your credit score calculations to vary.
No Action Can Guarantee Improvement
While good credit usage will eventually lead to good credit, there’s no particular action that will guarantee an increase in your credit scores. For example, paying your bills on time may help your credit scores, but the exact impact it has will vary by each individual. For some, they may see an immediate increase, while others may see no change.
It’s A Catch-22
Credit scores are a classic example of a Catch-22. In order to get good credit, you need to use credit, but in order to access credit, you need good credit. This paradox makes it incredibly frustrating for individuals as they may have the income and financial resources to comfortably afford a loan. Yet, they may be rejected or get stuck with high-interest rates and poor terms due to their credit scores.
Why Do Lenders Use Credit Scores?
Credit scores are important because they help lenders determine whether or not you get approved and for how much. Lenders also use credit scores for the following reasons:
Faster Decisions
Credit scores are an effective and efficient way for lenders to make a quick but informed decision about a potential borrower. When lenders are able to make quick decisions they are in return able to make a lot of them which allows more borrowers to get their loans or credit faster.
Reduces Lending Risk
Lenders use credit scores to evaluate a borrower’s creditworthiness. The higher the borrower’s credit score, the lower the likelihood they’ll default on the loan. As such, lenders will use credit scores to make quick decisions that’ll earn them a profit when evaluating a borrower’s application.
Just remember that lenders want to lend money, it’s how they maintain their business. Alienating borrowers to the point of not wanting to borrow anymore is not the end game of a lender.
Additional Reading
Does Switching Credit Cards Affect Your Credit Scores?
What To Do If You Have A Zero Credit Score?
What Can You Do If You’re Rejected Due To Your Credit Score?
While it might seem like all lenders are out to reject you, when it comes to getting a loan the ball is in your court. Your credit is a reflection of how you’ve used credit. To avoid being rejected due to poor credit, you can work on building good credit by:
- Pay your bills on time – Your payment history generally holds a lot of weight when calculating your credit scores. As such, making your payments on time and in full will help improve your credit.
- Reduce your credit usage – Your debt-to-income ratio can also impact your credit scores. Generally, having a low ratio (30% or lower) is recommended.
- Avoid cancelling old accounts – Your credit account age can also impact your credit. The older it is, the better it is for your credit. By keeping old accounts open, your average credit account age will be higher, which may improve your credit.
Are Credit Scores A Scam FAQs
Do lenders see the same credit score as me?
The credit score you see may vary from the credit score your lender sees because they may use a different credit scoring model.
What is a FICO score?
The FICO score is a credit score that is used by most lenders in Canada. It was previously known as the beacon score. FICO scores are only accessible to lenders, consumers have no way of accessing it themselves.
What is the most accurate credit score in Canada?
There’s no one credit score that is more accurate than the other. There are many different credit scoring models out there and depending on the loan you’re applying for lenders may place more emphasis on one factor than the other. This may lead to different credit scores, however, that doesn’t mean the other one is wrong or inaccurate.
Where can I check my credit score in Canada for free?
You can check your credit scores for free in Canada at Equifax or even with some credit scoring companies like Mogo. Some banks in Canada such as CIBC and BMO also offer access to your credit score for free if you’re a client.
Bottom Line
If you’re an adult, have a job, or a family then a good credit score is essential, especially if you need financing to buy a home or car. If you responsibly use credit by paying your bills on time and keeping your credit utilization low, you’ll be able to build or maintain good credit. Credit scores can be confusing, so do some research and find out what credit scores are all about.
