Credit Score versus Emergency Fund

I didn’t know anything about credit scores or credit reports until about 6 months ago. I mean they were something that I had heard about like Unicorns but I’ve never actively tried to look at one…

Now I've learned how important they are to obtaining more debt!?

What that doesn’t make any sense….

Yes they have a practical application especially in Canada when you need to apply for a mortgage then the bank will look at your Credit score.

And you need to look at your Credit Report to make sure that everything on there is accurate and that nobody has committed fraudulent activity or identity theft against you.

What is a Credit Score:

"A credit score is a 3-digit number that allows lenders to determine a potential borrower’s credit risk"

(https://www.greedyrates.ca/blog/your-credit-the-basics/#:~:text=The%20median%20credit%20score%20in,credit%20bureau%20and%20credit%20issuer.)

How risky are you of not paying back your credit card or loan?

In Canada there are two national credit bureaus: Equifax and TransUnion. They create credit scores and credit reports based on the information they receive about each borrower from their lenders. In essence, it is the history of your debt usage so that means you have had debt in the past which correct me if i’m wrong….but isn’t debt a bad thing (we'll get to that)...

A Credit score is comprised of :

35% of your repayment history towards DEBT

-all consumer debt except for mortgages

-considers deferred payments, late payments, payments sent to collections and whether the debt has been paid off entirely

-includes Bankruptcy filing and any liens against you

-More recent payment history has a greater impact on your score, and more distant payment history has a lesser impact.

10% of new credit applications

-only includes HARD looks not SOFT looks into your credit history.

- 'soft check’ occurs when you check your credit score, or when anyone else reviews your credit history for non-lending purposes. It does not negatively affect your credit score.

-‘hard check’, on the other hand, occurs every time you apply for a credit card or loan.

-too many hard checks in your credit history during a short period of time can negatively affect your credit score (knocking it 7-10 points).

-A large number of applications for credit products can signal financial difficulty to your creditors and make them suspect you of “credit shopping

(www.thesimpledollar.com)

30% is also total debt usage

-example: a credit card with a limit of $10,000 and you use the full $10,000 every month versus only using $5,000 can negatively impact your credit score.

-what percentage of your total credit are you normally accessing each month?

10% is types of credit

-a variety of responsibly-used credit types like loans, credit cards and lines of credit – the higher your credit score

-credit diversity with payments made on time shows lenders you’re responsible with all types of credit

15% is length of credit history:

-longer you have a credit cards around, the higher your credit score

-Creditors like to see a history or longer pattern of consistent "on time payments" as a demonstration that you are less risky to lend money to.

-Those who have a shorter credit history, or who haven’t regularly used the credit they were allotted, are seen as a higher risk of defaulting on their loans.

In Canada, credit scores range between 300 to 900

POOR: 300-574

AVERAGE: 575-659

FAIR: 660-689

GOOD: 690-740

EXCELLENT: 740-900

The lower the score, the less likely you are to be approved for a credit card or loan and the lower the score, the higher the interest rate you will be offered.

The higher your credit score, the more likely you are to be approved for a credit card or loan, and you will likely be offered a lower interest rate.

Canadian consumers with higher credit represent fewer late payments and regular payments towards their balances in full. They also tend to have a lower credit utilization across all of their lines of credit. Those with an fair or poor credit score tend to have multiple late payments and may have defaulted on a loan at some point and tend to have higher credit utilization percentages or may even have declared bankruptcy.

You can access your Credit Score in Canada for free via Borrrowell. You can also access your free credit report from either Equifax or Transunion at least once per year. I would recommend doing this, both getting your credit score and getting your credit report to ensure that all the information on there is accurate.

Today I'm proposing something a bit unorthodox and some might say un-Canadian, but what if you did something radical and didn’t care about your credit score?

What if you never needed to use it?

I'm hoping that my husband and I will never have to use ours. We have our home paid off. We have savings for retirement and savings for our children for post secondary education. If we plan to purchase a vehicle, we will plan in advance and if we plan to do renovations, we will plan to do that in advance.

What about an emergency you ask?

What if you had a 3-6 month emergency fund that you could access easily within a day and only used it for Emergencies.

I have worked for several years as an Emergency Nurse and I know that the term EMERGENCY is used very loosely at times! Many people think the definition includes “I can’t sleep.” However, if you want to cost taxpayers $600 on an emergency room visit than you better have a REAL EMERGENT or URGENT situation. I once saw an American pay $200 in cash upfront to be assessed by a doctor in the Emergency room. I don’t remember what his symptoms were but I knew that he was serious about being seen and assessed.

Where was I going with this… oh yeah, a FINANCIAL EMERGENCY is NOT a good deal on:

-vacations

-vehicles

-home decorations

-clothes

-electronic devices

-smartphones

-toys

-recreational vehicles

Etc.

Just like your Insurance Company has a deductible to make sure that you are serious about making your claim, a real emergency means that things are SERIOUSLY an emergency!

We once had an emergency situation where we had to dip into our Emergency Fund:

My husband had borrowed a $3,800 scanner from work and had it in his vehicle to return to work the next day when it was stolen from our vehicle along with his winter jacket (my husband rarely wears his winter jacket in winter). We researched whether this could be paid either through our insurance or my husband's work insurance but it didn't make sense because of the insurance deductible. We paid from our emergency fund the total $3,800 in one payment and honestly I haven't even missed it. I'm not saying that it wasn't a huge amount and that it didn't hurt to shell that out because of somebody else's dishonesty but I'm glad that we had that amount saved up for such a time as this.

I admit that I enjoy using my credit card because I honestly never feel comfortable carrying around cash. In my experience, cash has either mysteriously gone missing, been stolen or gotten lost! I'll also admit that we probably do spend more with using a credit card as per the psychology of swiping versus the more painful act of parting with cash, but for me, it works because I pay off my monthly balance in full every month.

There are certain advantages that good credit can also help you with that an emergency fund cannot, such as renting an apartment, getting a job where they look at your credit history, getting approved for insurance coverage at a lower premium and getting a better plan for your cable, phone or utilities.

I also agree that if you are travelling internationally, it is nice to have a backup credit card in case your bank funds are not accessible in a REAL emergency. Although I've also had the opposite situation, where my credit card was rejected at an airport in Australia and my debit card was still usable. My credit card was rejected because my credit card had suspicious activity on it because I was travelling, even after I had informed my Credit Card company that I would be travelling.

I know that Dave Ramsey only recommends using cash or debit but it is very difficult to get a mortgage in Canada without having a credit history compared to the USA... so my suggestion, is if you need to build up "credit history," that you save up the cash for a purchase, and then take out a loan from the bank at a low interest rate and then proceed to pay off the amount immediately, which will then reflect a good payment history.

What do you think?

Which is better a great credit score to borrow more money or a great emergency fund to fund emergencies??

Now, Go and Be Intentional!