A credit score is based on an individual borrower’s credit history, that is, the number of credit accounts, total debt, repayment history and enquires he/she has made while seeking a loan. Using the credit score, a lender evaluates the probability of the borrower repaying debts/loans on time.
While a high score increases your chances of getting credit (like a loan or credit card) and that too at attractive interest rates, a lower score can make lenders wary of lending to you.
Thus, your credit score is a number that can either cost or save you a lot of money while availing loan.
Let us take a look at what a high and low credit score means.
How does a lender use the credit score?
As soon as an individual applies for a loan, the concerned lender will fetch the loan applicant’s credit score and report from credit information bureaus to assess their credit worthiness. There are four credit bureaus in India – TransUnion CIBIL, Experian, CRIF High Mark, and Equifax.
Depending on the credit risk matrices they use, lenders set their own cut-off credit scores for evaluating loans and setting loan interest rates.
A credit risk matrix is basically a risk grading mechanism. Some lenders put the grading information in the public domain (with the credit score mentioned separately). However, some lenders may not reveal the credit score required to obtain a loan.
Adhil Shetty, CEO, Bankbazaar.com gives examples of how the risk grades work for different banks:
For instance, a leading government bank has six risk grades, and those in grades 1, 2, and 3 pay a rate 10 basis points lower than those in grades 4, 5, and 6.
Another government bank’s risk grading would determine whether a borrower will get the rate that is the lowest (the benchmark rate itself) or up to 100 basis points higher.
There is a private bank which mentions that its rates for salaried borrowers for loans up to Rs 35 lakh will vary from 6.95 to 7.60 per cent, and the difference between the two rates will be determined by various parameters including credit score and income.
What does a high score determine?
The credit score can range anywhere between 300 and 900 depending on the individual’s credit behaviour. The closer the score is to 900, higher are the chances of credit card or loan application approval.
When you have a good credit score, it gives you leverage while applying for a loan as it assures the lender of your solvency.
Radhika Binani, Chief Product Officer, Paisabazaar.com said that a high credit score, i.e., 750 and above, improves chances of loan or credit card approval. Many lenders also follow risk-based pricing while setting interest rates for loan applicants. Those with higher credit scores are charged lower interest rate than those having comparatively lower scores. “Hence, individuals should always aim at steadily improving their credit scores and those with higher credit scores should take adequate steps to maintain it,” added Binani.
What is a good credit score and how you can maintain it
What does a low score determine?
Borrowers with lower credit scores are charged a higher interest rate than those with comparatively high credit scores. Besides, a borrower with a very low credit score may not get credit from most lenders. However, this may vary on a case to case basis. “Lenders usually consider individuals with low credit scores, usually below 750, as less creditworthy and having more credit risk. Hence, such individuals have lower chances of credit card or loan approval. While some lenders may still approve loans to such individuals, they may charge higher interest rates to deal with the higher credit risk,” said Binani.
What you should do
Some of the credit habits that help in building and maintaining a good credit score include repayment of loan Equated Monthly Instalments (EMIs) on time, payment of credit card bills by the due date, keeping Credit Utilization Ratio (CUR) within 30 per cent, avoiding multiple loans and credit card inquiries within a short span, and monitoring co-signed/guaranteed loans.
How is credit score calculated?
You should also check your credit report at regular intervals to detect any misinformation or clerical errors which can pull down the credit score. These discrepancies, if any, should be reported to the concerned bureaus and lender for rectification. In addition to the free credit reports from the bureaus, consumers can also fetch free credit reports and monthly updates from online financial marketplaces.
If you have a low credit score, there are still ways you can get credit. Binani said, “Individuals having low credit scores should broaden their search for loan options to find lenders willing to lend to those with low credit scores. They can also add co-applicants/guarantors with higher credit score and better credit profile to increase their chances of getting a loan. Alternatively, look for secured loan options like gold loans and loan against securities as lenders give less importance to credit scores because of the availability of adequate collaterals in case of any default by the borrower.”
How to get loans even with a low credit score