A credit score is a three-digit number that measures a customer’s trustworthiness. It is used by the lenders to predict whether you will be able to repay your loan on time or not. Higher the credit score, the more favorable will be the credit terms.
Credit score ranges from 300 to 850. Typically, a credit score above 700 is considered good to get your loan application approved by the lender.
Why the Credit Score is Important?
Credit score is important in many ways. Credit scores are the measure of reliability of the borrower which is used by the lender to take decision on the loan application of the borrower. The lender assesses the risk in giving loan to a particular lender with the help of credit score. Higher will be the credit score, lower will be the risk and more will be the chances of your loan getting approved. Another importance is, higher the credit score, more favorable will be your credit terms and less will be the interest rates. This means that you will have to pay less amount in the form of EMIs.
How the Credit Score is Calculated?
Credit score is calculated using the information in your credit report. All the data like your payment history, the amount of debt you are having and the length of your credit history are used to calculate the credit score.
There are five factors that play crucial role in the calculation of your credit score.
Repayment History
The lenders look into your repayment history to decide your credit score, i.e., how you have repaid your credit in the past. Your payment history may include credit cards, all type of loans, retail department store accounts, etc.
The details of your late or missed payments, bankruptcies, etc. are recorded. Credit scoring models are created to determine how late your payments were, how much you owned and how recently and how often you missed the payment. The ratio of credit accounts delinquent from the total credit accounts affects your credit score. For e.g. if you have 12 credit accounts out of which 6 accounts are such in which late payment is done then the ratio is 0.5(=6/12), which will impact your credit score.
The Number of Credit Accounts
Although it has a low impact, having different types of secured and unsecured loans has a negative impact on your credit score.
Your Credit Utilization Ratio(CUR)
CUR shows how frequently you use the credit card for your financial needs. It is the percentage of your average credit limit being used in a month. The more you will use your credit card the more will be CUR and the more will be its impact in lowering your credit score. Ideally, you should try to keep your CUR below 30% and ensure fully and timely payment of your credit cards.
Number of Credit Enquiries Made Against You
Each time when you apply for a loan, the lender makes enquiry against your credit score. Each check can lower your credit score. Whenever you submit the loan application, the lender will fetch your credit report from credit bureau. Each such enquiry by the lender is called the hard enquiry and can reduce your credit score. The way to avoid impact of these enquiries on your credit score is that instead of submitting multiple credit enquiries directly to the lenders, you should visit online financial marketplaces for selecting the best loan or credit card options for you. During this process also, the marketplaces will fetch your credit reports for offering you the best option but these enquiries are called ‘soft enquiries’ and does not impact your credit score.
Ways to Improve Your Credit Score
Your credit score keeps changing according to your credit related activities. The credit score rise or fall as per the updating of new information. Therefore, you have a lot is your hands to improve your credit history. Here are few ways by following which, you can improve your credit score.
- Always pay your bills on time. If you keep paying your bills on time even for six months regularly, you will see a noticeable change in your credit score.
- Increase your credit limit. If you have credit card accounts, then you can increase your credit limits. There are many ways by which you can enhance your credit limit like, be prompt in your payments, maintain a low credit utilization ratio, provide evidence of increase in your income, reduce your liabilities, pay substantially more than your liabilities, etc.
- Don’t close your credit card account. If you have a number of credit cards, then instead of closing an account stop using it. The reason is that the credit by doing this, your credit utilization rate will be in limit. For e.g., if you have Rs. 1,00,000/- in debt and a credit limit of Rs. 4,00,000/- split evenly between two credit cards then your credit utilization ratio is 25% (=100000*100/400000), which is good for your credit score. However, if you have only one credit card having a credit limit of Rs. 2,00,000/- only, then in this case your credit utilization ratio is 50% (=100000*100/200000), which will negatively impact your credit score.
How to Know Your Credit Score?
There are few steps by following which you can know your credit score:
Step 1: Go to CIBIL official website.
Step 2: Select ‘Get you CIBIL Score’.
Step 3: Fill up the required details in the form.
Step 4: Click on ‘Accept and continue’.
Step 5: You will receive an OTP on your mobile number. Feed the OTP in the required field and select continue.
Step 6: Select ‘Go to dashboard’ and check your credit score.
Conclusion
The credit score is crucial if you apply for the loan. A good credit score not only enhances your loan application getting approved but also fetch favorable terms and lower interest rate for your upcoming loan. You should therefore, always strive to improve your credit score continuously. One should know the factors used in the calculation of credit score so that he/ she should be careful while making any decisions related to credit that how these decisions are impacting his/ her credit score.
Also read: Should You Take Personal Loan?
