Loan approval from a bank can be a harrowing experience nowadays. Banks follow a strict loan evaluation process. Apart from a whole host of documents being demanded, banks assess your income earning & repayment capacity. Besides these other factors, having a good credit score is critical for deciding your loan eligibility.
The concept of credit score is gradually gaining significance in India. There are many agencies like CIBIL (Credit Information Bureau India Ltd), Equifax Credit Information Services, Experian Credit Information Co of India, etc., who prepare credit reports of borrowers. Every penny borrowed from a bank, loan enquiry made, your loan payment history, everything is being tracked. So for example, if you have defaulted on you loan payment or even casually made a loan enquiry, your bank will inform CIBIL or other accredited agencies.
Such information is collated from various banks and lending institutions across loan types over a period of time. Subsequently, a credit information report (CIR) is prepared and a credit score is generated for every loan or credit card applicant.
All banks use these reports to evaluate your credit worthiness before loan sanction. The higher the credit score better are the chances of loan approval. A score of over 600 is considered decent and greater than 750 is even better.
If your credit score is high, the lender will further look into your application to determine your credit worthiness. If your credit score is low, the lender may not even consider your application and reject it outright. The credit score works as a first and very important impression for the lender.
Let us examine the critical factors which make or mar your credit score:
Late payment: If on any occasion you miss the deadline to pay your EMIs and make a late payment, it affects your credit score badly. Also, not paying your credit card dues in full and rolling over the outstanding balance is detrimental for your credit score. It is thus crucial to remain disciplined and pay your dues in time. You can use Google Calendar or mobile apps like Evernote, Colournote, etc., for payment reminders of all loan installments and bills. You can set a recurring reminder daily 4-5 days in advance from the due date for payment. Automate the payments of your loans and bills through ECS facility. Also, it is better to instill a discipline of arranging funds in advance, especially in the case of credit card dues.
High proportion of unsecured debt: Having a high proportion of unsecured debt like personal loans is not considered healthy. While getting a personal loan is easy, it may imply that banks are not willing to grant you secured loan because of your inadequate repayment capacity. Personal loans usually are the last resort for any borrower as they charge heavy interest and are the most expensive. Too much dependence on them would thus mean you are a heavy borrower and your credit score will take a hit. It is prudent to strike a balance between the secured (home loan, auto loan, etc) and unsecured debt you take on. This may reflect well in your credit score.
High utilization of credit limit: If you are a frequent credit card user and utilizing full limit every time you buy, it may reflect too much dependence on credit in your scorecard. While you may be paying your dues on time, it may imply an increased repayment burden every time you utilize 100 per cent of your credit limit. So it is better to utilize your credit limit judiciously. You can split your purchases between 2 cards and utilise half of the limit of each card.
Too many loan inquiries: If you casually enquire about a loan or credit card, even though you may not require it urgently, banks communicate such information to CIBIL. Many a times, people apply at multiple banks simultaneously for home loans. Too many enquiries or multiple loans sanctioned may not reflect well in your credit score. So apply for a new credit card or loan cautiously and enquire only if you genuinely require it.
Loan settlement: Many people irresponsibly pile up huge debt beyond their repayment capacity. They fall into a deep debt trap and then loan settlement becomes their last resort. Loan settlement does not mean you can start with a clean slate later in the future. It would negatively impact your credit score and you would be blacklisted by lenders for grant of future loans.
Risk in being a Guarantor: Many people for personal reasons or under some obligation become a guarantor for other’s loan. In the event of default by the primary debtor, the bank will hold you equally liable and it can badly affect your credit score. Avoid being a guarantor except for your spouse, sibling and parents.
Note that these are the not the only factors but they are critical reasons which a lender will consider for loan approval. While not all the factors have equal weightage in determining your credit score, ensure you follow the best practices to have a good score.
How does the credit score benefit you as a borrower?
There are instances where people’s loan application have been rejected because of bad credit score and they weren’t even aware of it. It is better to review your credit history once in a while. Just like banks, even loan applicants can subscribe to CIRs. Before starting a loan hunt, it is advisable to first subscribe to your CIR. It would guide you in understanding the factors based on which the lender will evaluate your credit worthiness. You can thus buy time to sort out the discrepancies, if any, found in your CIR and accordingly take actions to rectify them. This would help to avoid last minute unpleasant surprises in the form of rejected loan application.
CIBIL provides reports for a nominal fee of Rs.159. You can also apply for the CIBIL Transunion score which ranges between 300-900. Subscribing to the CIR and credit score together would cost Rs.500. It is not expensive at all given the fact that such vital information would help you in the loan process. A good credit history and a good score would help to negotiate a better deal with the lender.