What is the credit score and how does it work?

credit score

A credit score or the CIBIL score is one of the prerequisites for getting a loan from a bank or any other financial institution. When you apply for a loan, the lending institution will first check your credit score, and only if it is satisfactory, the bank will approve your application. A credit score of 750 or above is generally considered good and can help you get a loan quickly and at a cheaper interest rate. Here are some essential facts about the credit score and how it works in India:

Why is a credit score important?

First, let’s clarify the basics. When a borrower applies for a loan, the lender checks the credit score and report of the applicant and this is also known as the CIBIL score or report. If the CIBIL score is low, then the bank or the financial institution will not consider the application further and reject it.

In case the CIBIL score of the applicant is above 700, then the bank will look into other details of an applicant’s credit-worthiness. The CIBIL score is akin to the first impression of the borrower; the higher the score, the higher the chances of the loan application being approved by a lender. However, CIBIL doesn’t decide if the loan/credit card should be sanctioned or not; it is solely at the discretion of the lender.

Who maintains the credit (or CIBIL score) in India? 

TransUnion CIBIL Limited maintains the records of all commercial entities and individuals’ payments pertaining to all loans and credit cards. These records are submitted to banks and other lenders every month to help them in evaluating and approving loan applications. The Credit Bureau is licensed by the RBI and is governed by the Credit Information Companies (Regulation) Act of 2005.

How is the credit score calculated?

TransUnion CIBIL Limited calculates the CIBIL score by culminating all the debt related transactions of a borrower. The credit score is a summary of your credit history that is represented in a single number and ranges from 300 to 900. A score above 700 is considered good by most financial organizations. All transactions like payment of loan EMIs and credit card bills are used to calculate the CIBIL score. If your score is extremely good (around 800-900), you can also be eligible for higher loan amounts and lower interest rates.

How can you improve your credit score?

The credit score is calculated based on your credit history. So, the better your credit history, the higher will be your credit score. To maintain a good credit score, it is essential to pay all your bills on time. Any late payments can negatively affect your credit score. It is also important to repay loans on time and manage debt effectively.

Maintaining a balanced credit which includes a mix of secured loans like home loan, auto loan, etc. and unsecured loans like instant personal loan, credit cards, etc. is prudent. Having too many unsecured loans can be viewed negatively by lenders. It is also important to regularly monitor your co-signed, guaranteed and joint accounts as you will be held equally liable for any missed payments. Any negligence in your joint holders account could also affect your ability to get your loan application approved.

What does ‘NA’ or ‘NH’ score mean?

‘NA’ or ‘NH’ score means that you do not have enough credit history of being scored, and you are considered new to the system. This simply means that no credit activity has been done in your name. Although an ‘NA’ or ‘NH’ score is not considered a negative some lenders may have policies that prevent them from giving a loan to an applicant with ‘NA’ or ‘NH’ score, because a lack of credit history makes borrowers less creditworthy.

Thus, the credit score or CIBIL score is an essential number for borrowers and lenders. You can improve your credit score by doing simple things like repaying your credit card bills on time, not missing EMIs on loans, and not defaulting on your debts. If you are considering applying for a loan, it would be best if you checked your credit score beforehand. Checking in advance before applying for a loan is important loan rejections can also negatively affect your CIBIL score. It is also a good practice to check your score every few months to keep track of any changes in the same. This is particularly true if you have recently closed a long-standing loan or are in the process of repaying one.