It might seem counterintuitive, but borrowing money actually helps Canadians improve their credit records. According to experienced consultants at Laneway Auto Loans & Sales, making all those routine payments on time, every time, shows lenders they can trust you to stick to your repayment schedule.
Detail: A whopping 35% of your overall credit score is based on your payment history.
How Does an Auto Loan Build My Credit Score?
Financing a car purchase is a transaction that slots into your credit score. This is a record of how much debt you are carrying, for how long, and how promptly you are paying it all back. Another factor in your payment history is the kind of credit you hold, either revolving (like a credit card) or regular instalments (like a mortgage). Consequently, paying back your auto loan regularly upgrades your payment history, which in turn boosts your credit score.
Detail: A solid 30% of your overall credit score is based on the amounts you owe.
What Other Factors Affect My Credit Score?
While your payment history (35%) and current debt (30%) account for a hefty 65% of your credit score, three other aspects are also included in these calculations:
- 15% – length of credit history, which is why it’s a good idea for youngsters start building up their credit scores early in their careers;
- 10% – credit mix, with a blend of fixed and rotating repayment schedules, for added flexibility;
- 10% – new credit, keeping your credit profile active.
Is an Auto Loan Really a Good Way of Building My Credit?
Vehicle financing offers more advantages than simply being able to afford the wheels you want. One of the lesser-known benefits is that these loans are a great way of building up your credit score. Here’s why:
- Car loan approval is easier to obtain, particularly for borrowers with credit scores of under 670. In fact, some dealerships specialize in these sub-prime loans, which are often available online, saving hours of frustrating searches for potential buyers with wobbly credit records.
- Auto loans are secured, which means that they are backed by collateral. If a borrower defaults on auto financing, this collateral (meaning the vehicle itself) is repossessed, and then resold to cover the unpaid balance of the loan. This is why the interest on secured loans is usually lower than the amounts charged on unsecured loans, which are granted based only on the borrower’s creditworthiness.
- Credit builds credit, which is why auto loans (secured and thus easier to obtain) are a great way of getting less-than-perfect credit scores back on track, by simply paying every instalment in full and on time for at least a year, thus establishing a responsible payment pattern.
What Else Should I Do to Build My Credit Score?
When you’re looking for a double-benefit auto loan (financing a car while bumping up your credit score), there are plenty of added advantages you can grab. They include:
- Avoiding scattershot applications to several banks, credit unions or dealerships, expecting a rush of rejections but hoping for just one approval, as each application can lower your credit score;
- Picking a car loan with cashback, and then double-boosting your credit score by using this money to lower the outstanding amounts on your credit cards;
- Saving up for a larger down payment of at least 15% (and preferably 20%), can fast-track your chances of pre-approval, by lowering the lender’s risk;
- Being realistic about your repayment capacity, particularly if your income isn’t 100% certain, or you live paycheck to paycheck without a financial safety net for at least six months out of work;
- Keeping your debt-to-income ratio low, preferably at around 30%, because auto lenders often have a 45% DTI ceiling of 50% for projected auto loan repayments and insurance costs.
Takeaway: The advice from experienced financing consultants at Laneway Auto Loans & Sales is simple: just pay each bill on time every month. That’s because late payments appear on your credit report for the next seven years, showing lenders that you can’t be trusted to settle your debts promptly.