What if your minimum payment doesn’t bring down your balance owing?
Contributing to the never-never plan is the fact that anyone close to their credit card limit may choose to use up their minimum payment amount as soon as it’s applied. For instance, if you have $200 of available credit left on your card and you make your $350 minimum payment, but a few days later you charge groceries, fuel, lunch and dinner while shuttling kids between soccer and dance totalling $450, you haven’t actually allowed your balance to decrease. This is a further indication to your credit score that you have a cash-flow problem.
If you are utilizing your credit cards as much as possible to collect points, make sure the points are worth it and you’re not just trying to justify your spending. Collecting points is fine and can be worthwhile, but you never know if or when you need to apply for new credit. It’s wise to keep your credit score on the healthy side so that your options don’t become unintentionally restricted. That means ensuring you use no more than about 75% of your available credit.
How does a credit score impact future borrowing?
A credit score is an integral part of your overall credit rating, and a good credit rating is extremely important when you want to borrow money. Lenders want to ensure that any money they lend will be repaid. Your credit score indicates to them what kind of risk they are taking if they lend you money; the lower your score, the higher the risk.
This risk determination then impacts a number of factors, for instance:
- How much a lender can lend you
- What interest rate a lender or financing company will charge you
- Which credit products you qualify for
- If there are any specific terms or conditions a lender will need to impose
If you have a lower credit score, restrictive terms or conditions can be baked into the type of product you qualify for, rather than a specific condition imposed by a lender. One such condition can be with regards to a credit card. Some card types limit how much of your credit limit can be used for cash advances versus normal purchase charges. Similarly, with consolidation loans some borrowers will need to consent for their lender to pay off and close paid accounts on their behalf; other borrowers may be allowed to do that themselves or even keep specific accounts open, with or without a reduced credit limit. Another condition a lender may impose based on your credit score is if you require security for your loan or not. If a lender is very concerned about a borrower’s ability to repay a loan, the lender will require a security that is as good as a cash equivalent, such as a non-registered GIC or term deposit, versus an item that first needs to be sold—for example, a car.
Your credit rating can impact broader financial activities
Beyond applying for new credit, your credit rating is also important to prospective landlords, employers and even insurance companies. While they don’t need your credit score if they’re not lending you money, they are among those who want to know how you manage your credit obligations. For instance:
- A landlord may want to know if you’re in arrears with previous utility bills or if you have a high car payment that could jeopardize your ability to pay your full rent.
- An employer may want to know how stable your financial situation is because when we have financial difficulties, our attention at work can be adversely impacted. For example, we might receive collections calls at work or if we’ve had a poor night’s sleep worrying about our bills, we could be distracted.
- Insurance companies may have similar concerns. For example, someone who doesn’t perform proper home maintenance because their budget is tight may file more property claims (such as a leaky roof or flooded drains). Car insurance providers know that someone who is sleepy, stressed and worried will be less attentive behind the wheel. Many insurance companies also provide payment plans for coverage, and those plans are a form of credit.
Managing our money effectively has countless benefits—financial, emotional, psychological and physical, to name a few of the biggest.
What can you control when it comes to your credit rating?
Credit cards can be useful tools when used correctly, so avoid falling for minimum payment myths, the biggest of which is that making minimum payments will get you out of debt. Instead, determine your own minimum payment based on your budget and goals. As long as it is higher than what your credit card statement shows, you’re doing yourself a big favour.