Keeping clean credit

April is the beginning of real estate season — and clients shopping for new mortgages. But for every approved mortgage come a few that are rejected because of questionable credit histories.

The problem is most clients don’t realize there is anything wrong with their credit until they experience a rejected mortgage or loan application, explains Karl Straky, founder of Mortgage Intelligence and past president of the Canadian Association of Mortgage Professionals.

An outdated debt or an already paid-off item is often the culprit, and it can take a while to find the proper documentation (i.e., receipts) to fix the credit score. Straky suggests that advisors monitor credit ratings for clients if they consent in writing. He does this annually for his own clients using Equifax, a subscribed service for credit reports.

Before clients shop for a mortgage, present them with a few tips that will help them avoid inadvertently lowering their credit scores. One way to avoid depleted credit is to ensure clients are paying off debt using the lender-approved method, Straky notes.

While most clients know to consistently pay down credit card debt, they may not realize that maxing out a credit card has a substantial impact on their credit history. “The credit industry looks at a maxed limit and says, ‘This person looks like they are stretched to the end of their means, so they might be a risk,’ and therefore their score goes down,” Straky explains. “I tell my clients not to carry balances above 75% of their credit card limit. Instead of just using one card all the time and pushing your total near the limit, use another one of your cards where it’s only 50% of the available credit being used.”

Time is another crucial factor in determining credit scores. The older an unpaid debt is, the less impact it will have on a score, since lenders are concerned with a person’s current ability to pay down debt. For example, bankruptcy hinders your score for only about six to seven years.

Advisors can also monitor their clients’ debt-to-income ratio, since it’s another part of a lender’s decision-making process. “If you’re someone who makes $400,000 a year, you can service a lot more debt than somebody making $80,000 a year,” he says. “Just about every lender uses a guideline between 40% and 45% of your gross income as your total debt service ratio. As long as it is not taking more than 40% to 45% of your gross family income to service all the debt you have, you will qualify from a serviceability standpoint.”

Income stability can also be an issue when establishing good credit. If a client has just started a new job or works on contract, his or her income stream is not as stable as that of somebody who’s been working at the same company for 20 years.

Finally, tell your clients to avoid making frequent credit inquiries, especially near the time when they are going to apply for a loan. “Frequent inquiries in a short period of time will affect your score negatively because lenders look at that person as shopping around and potentially taking on a lot of credit that hasn’t shown up on their rating yet,” Straky explains.

Filed by Mark Noble Advisor.ca, mark.noble@advisor.rogers.com