Preserve your good credit rating
Credit cards are your passport to the world of electronic commerce. Without one, you're grounded. To avoid credit-card abuse, try the following tips.
•Pay as much as you can each month. The minimum payment is enough to keep your account in good standing, but it's not enough to make a dent in your debt.
•Stay below your credit limit. If you exceed the limit, the card issuer may just give you a higher limit, but your credit rating will suffer.
•Stick with one or two cards. If you carry a balance, don't keep applying for new cards with higher limits or lower rates.
•Contact the card issuer if you can't make a payment. Don't miss more than two months in a row.
How you could end up paying twice
It's tempting to pay just the minimum amount when bills pile up. You can do it once in a while, but you'll get into trouble if you do it every month. By paying only the minimum, you will extend the repayment period for many extra months. That will raise the cost of your credit card purchase; it could double the cost.
Suppose you buy a leather jacket for $1,000 and put it on a credit card with an 18.5 per cent annual rate. You have no other debts and you pay the minimum, say three per cent of the balance each month. At that rate, you will take more than 10 years (122 months) to pay off the balance, and your total interest paid will be $842.90. That $1,000 leather jacket will end up costing you $1,842.90. If the minimum is only two per cent, you'll take more than 20 years (248 months) to discharge the debt. You will pay $2,144.83 in interest, thus tripling the cost of your purchase. Credit-card companies don't want you to know this. They're happy to let you keep paying the minimum. But it's dangerous to your financial health. There are two ways to reduce interest costs on your purchase of the $1,000 leather jacket: pay off more of the balance each month, or switch to a lower-rate card. If you pay 10 per cent of the monthly balance, you'll discharge the debt in 37 months with an interest cost of $173.48. And if you pay a fixed amount of $100 a month, you'll whittle that down to 10 months and $84.79 in interest.
The effects of a lower interest rate
Now look what happens when you switch to a credit card with a 10.5 per cent interest rate. By paying a flat $100 a month, you'll be debt-free in 10 months at an interest cost of $48.12. A low-rate card saves you money even if you pay just the minimum. If you use a card with a 10.5 per cent rate and pay three per cent of the monthly balance, you'll get rid of the debt in 91 months with an interest cost of $337. That's a considerable improvement from the 122-month repayment period and $842.90 interest cost you'll incur when you use a standard card with an 18.5 per cent interest rate.
Your credit rating will suffer if you have too much debt and you're paying only the minimum monthly amount, or if your credit-card balances are close to the limit. It's worth checking your credit report periodically to see how you're doing.
Check out your credit report
Every year or two you should get a copy of your credit report -- a history of how consistently you pay your obligations to companies that lend money or issue credit cards to you (banks, credit unions, retailers and finance companies). The credit report lists the credit cards and loans in your name. You can see the credit limits on each account, your current balance and payment history (whether you pay 30, 60 or 90 days late and how often you do that). Any information that affects your creditworthiness -- a recent personal bankruptcy or an account turned over to a collection agency -- will be there. Suppose you've been turned down for a loan or credit card. You're desperate to get funds and you want to see your credit rating quickly. Equifax Canada Inc. provides immediate online access to your credit report for a fee.
You can see how you compare to other Canadians on a scale of 300 to 900. The higher your score, the more favourably lenders look at you as a credit risk.
Find out the cause of your score
If you have a lower-than-average score, you will find out what brought it down. There may be an overdue bill that went for collection, a number of late payments or too much owed on the accounts. You will also get tips on how to improve your credit standing. To improve your credit score, don't run up your balances to the limit. Avoid applying for credit unless you have a genuine need for a new account. Too many inquiries from credit granters in a short period of time can be a sign that you have financial problems or you're overextending yourself by taking on more debt than you can repay.
Excerpted from Money 101: Every Canadian's Guide to Personal Finance (John Wiley & Sons, 2002) by Ellen Roseman.
How do you rate?
Every province except New Brunswick has consumer credit reporting legislation that gives you the right to find out what is in your file. To get your credit report from the two big credit bureaus in Canada, you have to make a request in writing. Send a letter or download an application from their websites: Equifax Canada Inc. or TransUnion Canada. Both bureaus will ask for two pieces of identification, as well as your birth date and current and previous addresses.
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