There are a number of reasons why credit scores drop. From late and missed payments to maxing out credit cards and applying for too many new credit accounts within a short period of time. And of course, there are more sinister reasons like fraud and errors. Just keep in mind that all credit scores react differently. A credit behaviour or habit that makes one credit score drop might not affect another credit score at all.
Let’s take a look at the most common reason why credit scores drop and how to deal with them.
One of the main factors that affect your credit scores is, of course, your history of payments. Most credit products you use come with a minimum balance payment and a maximum payment date that you have to adhere to in order to avoid a penalty. For example, every credit card comes with a monthly statement that includes a bill. If you don’t manage to at least pay the minimum monthly payment by the due date, you’ll be charged a penalty fee, as well as interest on the unpaid portion of the bill. Paying late, making short payments or missing them completely for any credit product can cause your credit scores to drop, especially if the bill goes for more than 30-days without being paid.
The only way to deal with a late payment is to make sure it doesn’t happen again. Set reminders on your phone to pay your bills, pick one day out of the month to manage your money, or set up automatic payments if that makes sense for the situation.
In credit terminology, delinquencies or derogatory marks refer to negative credit-related transactions that have become more serious. When credit accounts with balances go too long without being paid, the lender will sometimes sell them to collection agencies. Once this happens it will likely be reported to the credit bureaus which can result in a drop in your credit scores. Derogatory marks can remain on your credit report for up to 10 years depending on the type and the credit bureau. Some of the most common derogatory marks include:
The best thing to do is to make sure any and all of your derogatory marks are legitimate. If there has been an error and your credit dropped because of it, you can get in contact with credit bureaus and dispute the mark.
| How To Dispute An Error With TransUnion | Learn More |
| How To Dispute An Error With Equifax | Learn More |
Your credit utilization ratio is based on how much of your available credit you use. For example, let’s say you have two credit cards, one has a limit of $5,000 and the other $3,000. Your total available credit is $8,000. If you consistently only charge a couple of hundred dollars worth of expenses to each card every month, your utilization ratio will be low as it should be. But, if you max out your cards one month because of a large purchase, your ratio will increase quickly which could result in your credit scores dropping.
Most experts say that keeping your credit utilization ratio at less than 30% is best.
These are two main ways to manage high credit utilization. Ask your credit card providers for a credit limit increase. For this to work you can’t also increase your spending. Or, pay off your credit cards twice a month.
Whenever you apply for new credit, most lenders will pull a copy of your credit report to determine your creditworthiness. This is known as an inquiry. There are two types of credit inquiries. When you check your own credit, it’s known as a soft inquiry and will not affect your credit scores. On the other hand, a hard inquiry is performed when a lender or other financial organization reviews your report during their approval procedure. Hard inquiries can cause your credit scores to drop a few points. While this might not seem like much of an impact at first, too many hard inquiries may cause your score to drop more drastically. A hard inquiry can remain on your Equifax report for up to 3 years and up to 6 years with TransUnion.
If you don’t want too many inquiries on your credit report, the best thing to do is not apply for too many new credit products within a short period of time. One thing to keep in mind is that if you’re shopping around for a mortgage or a car loan, for example, all the inquiries associated with one of those products will be treated as one inquiry and not multiple, typically within a one-month period.
When it comes to credit accounts, the longer your history of responsible credit behaviour, such as timely payments, the better your credit scores will be. The average age of your credit accounts is taken into consideration when your credit scores are calculated. This is why it’s important to keep older accounts open. Furthermore, when you cancel a credit card, it will reduce your total available credit, which will likely increase your credit utilization ratio. You may see your credit scores drop from both a higher credit utilization ratio as discussed above, or from lowering the average age of your accounts
If you do need to cancel an account, make sure to pay off the remaining balance first. It’s always better to cancel a newer account rather than one you’ve had for multiple years.
Another area that may affect your credit scores is undisputed errors made by the credit bureaus or lenders themselves. In fact, this is one of the main reasons you should regularly request a copy of your credit report.
With both credit bureaus’ operations based strictly online, they usually accept any information provided by lenders without examining its accuracy. Therefore, any errors may go unnoticed, which may affect your credit scores negatively.
Some common errors found on credit reports that may cause your credit scores to drop include:
If you have found an error in your report, you can dispute it to the credit bureau in question, and if it’s justified, they should correct it within a few weeks. If you’re worried about fraud or identity theft, you can also pay for the credit monitoring service offered by both bureaus, which should alert you whenever an account is activated in your name.
The more severe errors occur during cases of fraud and identity theft. Sometimes, credit accounts will be opened in your name without you even being aware of it. An identity thief can open an account and apply for all the credit using your personal information. If you don’t notice and the account goes unpaid for too long, it can not only cause your credit scores to drop but could lead to more financial turbulence until the error is corrected.
Unfortunately, dealing with identity theft is a lengthy process. In a nutshell, you’ll need to get in contact with both credit bureaus and ask about placing a fraud alert on your files. Make sure your bank accounts are safe by changing any passwords and consider cancelling your credit cards. Get in contact with any companies that provided the thief with your information or let them open an account in your name. Next, you may want to file a report with your local police.
A credit score is a three-digit number that encapsulates all your actions as a credit user, somewhat like your grade point average. All your negative and positive credit transactions are calculated together to form a number that ranges between 300 and 900.
In general, those with credit scores of 660 and above will have little to no trouble getting approved for any credit product. On the other hand, if your credit score falls within the poor range (under 560), your chances of approval reduce and you’re more likely to end up paying a higher interest rate than someone with a higher score.
If you’ve ever been approved for and used a credit product, such as a credit card or personal loan (mortgage, vehicle loan, etc.), it means that you have a credit score. It also means that a credit report has been opened in your name by one or both of Canada’s main credit bureaus, Equifax and TransUnion.
Banks, lenders, and certain third-party organizations report your credit information to the credit bureaus. Generally, banks and other lenders will report to one of the two bureaus, but some will report to both. For example, if you get a credit card, the credit card company will report your activity to the credit bureau they’re partnered with, which will then create a credit report for you. From that point on, every time you use your card, the card company records each action and reports it to the credit bureaus ( usually every 30 – 45 days).
As we said earlier, once your credit score has dropped significantly, it can take a lot of time and effort to raise it back up. That being said, one of the main ways of improving your credit scores bit by bit is to be responsible and proactive when it comes to your finances and credit-related products.
In Canada, you can access your credit score and credit report for free from Equifax. Similarly, TransUnion offers Canadians their Consumer Disclosure (a file that contains your credit report information) for free. Or, you can choose a third-party provider like CompareHub. Reviewing your credit report can help you understand what’s affecting your credit scores and help you make the necessary changes to help improve them. Moreover, you can catch any errors that may be unfairly bringing your credit down.
Most lenders like to see a debt-to-credit ratio of 30% or below. If you find that you’re getting too near your credit limit, you can try increasing it to lower your debt ratio. If you don’t want to raise your credit limit, you can pay your bills more frequently, twice a month if necessary.
Given that payment history often accounts for around 35% of your credit score, full and timely payments can significantly improve your credit. If you find that you’re having trouble remembering to pay your debts by their deadlines, try setting up an automatic payment system through your bank.
As mentioned, your credit score is a versatile tool that can help you in various situations, such as securing loans and other credit products. In fact, your credit scores are one of the main elements used by lenders to determine your creditworthiness, as well as the interest rate you’ll be paying for their products once you’re approved. That’s why it’s extremely important to keep your credit score in good shape whenever and however you can.
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Bryan is a graduate of Dawson College and Concordia University. He has been writing for Loans Canada for five years, covering all things related to personal finance, and aims to pursue the craft of professional writing for many years to come. In his spare time, he maintains a passion for editing, writing screenplays, staying fit, and travelling the world in search of the coolest sights our planet has to offer.
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