A credit report (of which the score is a significant part) is a document generated by credit bureaus that signifies an individual’s credit health. Algorithm-based, it is calculated on data reported by financial institutions to the bureaus.
In India, there are four bureaus that have been licensed by the RBI, namely CIBIL, Equifax, Experian and CRIF High Mark. Of these, CIBIL is the oldest and hence very often the term ‘CIBIL score’ is used instead of ‘credit score’.
A credit score is a three-digit representation of your credit health, measured between 300 and 900 that indicates a person’s creditworthiness. This is the first piece of information that a lender looks at when you apply for a fresh line of credit, be it a loan or a credit card. Basis the score, the lender is able to establish whether approving a loan application would be worth the risk i.e. what are the chances that the borrower will repay the loan, or otherwise.
Globally, risk based pricing is a method used by lenders in the financial services segment. Using this methodology, a borrower who the lender believes is less likely to default is offered credit with a lower (or better) interest rate. This is determined by assessing various factors, of which the credit score is a very vital one. In India, however, financial institutions do not follow this method as on date.
Let us assume a person with a low credit score applies for a home loan to one of the larger banks. There is a possibility that owing to the poor score, the bank will consider this customer to be riskier than someone with a good score, and hence may deny the application. In this scenario, the customer would be forced to look elsewhere for finance – possibly with a smaller or lesser-known NBFC. While the chances of the loan now being approved are higher, the interest rate at which the customer would be offered this loan would also be high. In some instances, they can be close to that of an unsecured product such as a personal loan.
Further, chances are that this individual may also be denied a credit card, should they apply for one. This is because it is highly unlikely that a card issuer would like to extend credit to someone who appears to be having a problem managing existing debt.
Hence, with a ‘good’ score, chances that you save on interest costs are high. This is because the lender is more likely to look favourably at such a loan application and be prepared to offer credit at the most competitive interest rates.
Firstly, it is a good practice to keep track of your score, by calling for a credit report at a regular interval. This will help you not only identify any inaccurate information in the report, but also report such data to the concerned bureau. Remember, erroneous information can pull down your score, and hence needs immediate attention.
Further, use credit judiciously, be it a credit card or an existing loan. Make timely payments, on or before the due date and ensure that there are no write-offs or delinquencies as a result of late or non-payment of dues.
Another credit solution would be to avail of the services of a credit health monitoring company, who would work with you to rebuild and subsequently enhance your score.
Do keep in mind therefore, that it is good to remain credit healthy, so that when you do require a loan, you can avail of the best possible options at the time!