What is Credit Score?
We hear the words Credit score / CIBIL Score / Credit Report frequently when we go to the bank to apply for the Loan. So the immediate question comes to our mind is, what is this Credit Score and what is the relation between this Score & Loan.
In this blog post, I will try to cover all the points related to Credit Score.
What is Credit Score and/or CIBIL Score? Are they same or different?
Credit Score is a Numerical Value between 300 to 900, Statistically calculated, to know Credit Worthiness of the Loan Borrower. Higher the Score, more eligible he is to borrow a loan. The score above 750 is considered as Good Score and 900 the Best. The formulas & methodology used for the calculation of credit score is a trade secret.
In India, there are four Credit Information Companies which calculates the Credit Score. These companies are licensed by Reserve Bank Of India (RBI) to operate as Credit Information Companies in India. Following are the names of the licensed companies:
a. Credit Information Company – Gives the famous CIBIL Score.
& d. Highmark.
Based on RBI Guidelines, all the companies have developed their own software/method to calculate the Score. But most popular is CIBIL Score, developed by Credit Information Company. Credit Score calculated for any individual by these different companies may slightly vary. Banks have the tied-up with these companies to seek Score & Reports. Depending upon borrowers Score & Repayment capabilities (Current Earning status) bank decides to grant a loan or not to him. Bank considers safe to grant a loan if the Credit Score is on the Higher side.
Thus CIBIL Score is the credit score calculated by CIC.
Almost no Loan / Credit card application is approved without checking applicants Credit Score.This service is not created to reject or deny the Credit facilities to Indian Citizen but to develop and implement sound financial planning principles among the Citizens.
The Credit information Companies get all the details about Indian residents regarding outstanding loans, existing repayment reports etc from all the bank & credit card companies on the weekly or monthly basis. This helps them in calculating Credit Scores of Indian Citizens.
What are the factors considered to calculate Credit Score?
a. Credit History / Past Performance
This factor carries highest weightage (about 30 – 35%) in calculating the Credit Score. The study of borrowers dealing with past debt obligation is done. Any default or late payment in recent past will impact the score negatively. Smooth consistent repayment history without any default will enhance the score.
b. Credit Utilisation / Utilization Ratio
This factor carries weightage of about 20 – 25% in Score Calculation. Two things are considered in this factor, first is total Credit limit sanctioned as on date & second is how much credit is been utilized. The Utilization ratio is calculated on the balance that is outstanding on Loans and Credit Cards. If Most of the credit is utilized by borrower then the profile of borrower is considered as ‘Risky’.
c. Credit Mix & Duration / Credit Type
This factor carries weightage of about 25% in Score Calculation. This factor is calculated taking into consideration existing loan & the type of loan. There are two types of loan, first is secured loans – secured by the mortgage ( Home Loan, Car Loan, Gold Loan etc.) and second is unsecured loans (Personal Loan, Credit Card etc.). If the percentage of a secured loan is more than an unsecured loan it is considered as good and vice-versa is considered as risky as the rate of interest and risk involved for the latter case is higher than the first case.
d. Other Factors / Credit Hungriness
This factor carries weightage of about 20% in Score Calculation. If the higher number of Credit applications are seen under borrowers portfolio, it impacts the score negatively and the borrower is considered as Credit Hungry.
Tips on how to keep Good Credit Score?
a. Do Timely Payment:
There is no doubt that habit of doing timely re-payment of Loans increases the Credit Score and indicates responsible behavior towards repayment of Loan. Untimely payments / defaulting the EMIs indicates poor financial planning of the individual & affects the score negatively.
b. Do Full Payments of Credit Cards
Repayment of Credit cards comes with two options, first, repay full amount within given credit period & second Pay Minimum Amount or convert into EMI. It is always better to repay credit card payments in full, make habit of withdrawing / swiping for the only required amount & repay it in full within given credit period (mostly 45 – 50 days). Paying Minimum amount will affect your Credit score negatively and reflect borrowers poor financial management.
c. Never Default any payment:
You should never default or miss any loan repayment in any case. Default indicates the negative intention of the individual & if in future need arises for any other loan he may not be granted the loan as his Credit report will carry this default history, reducing his Credit Score.
d. Don’t be Credit Hungry:
Never apply for loan continuously. Always apply when there is a genuine need. Credit Score decreases on such continuous applications.
e. Don’t Close Credit Cards:
Credit cards should be used very wisely. Repaying the Credit card borrowings on time improves the Credit Score & reflect the responsible behavior of the user. Timely Repayment creates good payment history.
f. Never Pre-pay your Home Loan:
Instead of Pre-paying Home loan, invest the surplus amounts in good investment vehicles/options such as Mutual Funds, Retirement Fund, Children Education Fund, Equity Markets etc. Pre-payment may reduce your Credit Score. Use Home Loan facility to the fullest as the interest rates are low as compared to other loans and tax can also be saved under relevant Tax section.
g. Always Close the Loan instead of Settling it:
Never ever settle the disputed amount. Mostly this happens in post-paid Mobile Bill settlements, Credit Settlements etc. Banks or Companies report this payment as “Settled”. Any Settled remark in credit report decreases the Credit Score. Instead of Settling always Close the Loan or Bills.
h. Always take NOC from Loan or Credit Card Providers:
If the individual plans to close the Loan or Credit card, always ask for NOC / closing letter from Banks or Credit card Companies after closing the same. Make sure that this loan closure reflects in Credit Reports / Score within the stipulated time. If it is not reflected you can always mail this NOC / closing letters to the Credit Information Companies & get it reflected/noted on your Credit Score. This is very important otherwise this may affect your Credit score badly.
What is the difference between Credit Score & Credit Report?
Don’t get confused about Credit Score & Credit Report. Both are different, but one is dependent on other, let’s see.
As the name indicates, Credit Report has all the data & information on one’s debt account (Home loan, car loan, credit card etc.) & their payments pattern & history. Credit Report also contains PAN No., Residential Address, Contact Numbers etc.
On the other hand Credit Score is a statistically calculated 3 digit number between 300 & 900 generated from Credit Report, which reflects financial health, Credit Worthiness of the borrower or individual. Higher the number (More than 750) more is the creditworthiness.
Where will we get our Credit Report & Credit Score?
Click on following Links to get your Credit Scores. (Note: Some of the services may be paid)
a. Absolutely FREE Credit Score by Credit Mantri, Enter Your Mobile Number & Get Started-Click Here
Obtain your Credit Score absolutely FREE using my Referal / Invite Code (Referal Code Embedded in the link)
b. CIBIL Credit Score & Report –Click Here
c. Experian Credit Score & Report-Click Here
Experian guides you by saying “Checking your own credit will NOT lower your Score & Checking your Credit Report regularly can help you make good financial decisions and detect signs of identity theft early.”
d. Equifax Credit Score & Report-Click Here
Equifax Says ” Committed to Work with you – Our range of specialized product and services including credit reports, data management, analytics, alerts and more help you to make sound risk decisions in today’s economy.
e. Highmark Credit Score & Report-Click Here
Highmark motivates you by saying “A good Credit Score is the first step towards being financially healthy. Check your score now !”
Credit Score – Lessons Learnt/Wrap-up
- Make a habit of checking your Credit Score and Report at regular interval. It helps us in improving our financial behavior & timely actions can be planned to improve our score if needed prior to applying for Loan or Credit Card. It also helps us in identifying “Identity Theft” if any.
- Higher Credit Score gives us the power of bargaining lower interest rate on loan.
- Always Use Credit Card Wisely, Repay the borrowed amount within time. Never go for Minimum payment or EMI options in Credit Card. Never close the Credit Card, wise use helps us to improve our Credit Score.
- Never Pre-pay Home Loan amount, instead use the surplus savings for investing in the good investment vehicle.
- Never Default Loan Payment. It affects your Credit score in negative.
- Obtain NOC after every Loan Closure. Make sure it gets reflected on your Credit Score.
- Don’t over apply for the same types of Loans. Make your Loan portfolio a mix of the secured & unsecured loan, having more of secured loan. Apply for a loan when it is actually required & for the required amount only.
Hope I have covered major information on this topic.
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