For most people, a credit score may look like a simple three-digit numerical expression of an individual’s creditworthiness, assessed by a credit bureau at a point in time. But for a potential lender, it gives a deeper insight into someone’s ability and willingness to pay off debt, and more importantly, the aptitude to handle money itself. Thus, banks and institutions prefer a customer who has better hold on his or her personal finances as well as a healthier track record of fulfilling financial obligations, especially credit servicing, on time.
A good credit history will vouch for you in many ways when it comes to getting a credit card, a car loan, home mortgage and so on. Your credit score is derived from detailed analysis of your credit history, which includes major financial step you have taken, your overall behaviour in handling money and other valuable assets that you have created, besides your general attitude towards financial obligations, including your utility payments.
In short, a detailed history of your loan and credit card payments, defaults and other key financial decisions make up your credit history, using which a credit score is derived at. So, whatever you have done in the past or are doing in the present will all weigh in on your credit score.
Importance of a good credit score:
When you seek a loan or credit, your credit risk is evaluated, by screening your credit score maintained by an agency; your credit report largely guides lenders to decide whether to approve your credit request or not. Thus, it would be prudent to check your credit report regularly and take corrective steps against misreporting, theft of identity and even accounts that you don’t recognise.
Today with consumer consent, landlords, telecom or power utilities and even the employer can turn to credit score to get a ringside view of you from a perspective of accountability and commitment. You stand to lose a world of opportunities if an employer or a landlord takes your credit score in its entirety.
Though there are many organisations providing different set of credit scores, they are all calculated using similar set of inputs. In general, the desirable average credit score is about 750—below which it is considered adverse. Lenders or other users may find an applicant with a credit score of below 750 as unworthy, hence may reject such requests.
Benefits of a good credit score:
Maintaining a good credit score gives a whole lot of opportunities. For example, banks uses the score to understand your primary eligibility to avail a loan, considering your ability to repay. If you have a good credit score, it gives the lender a world of confidence. The same method is applicable for credit cards, too. However, such a favourable prospect makes a difference when you seek a larger loan like a home loan or a vehicle loan. As your monthly liabilities will be considerably less, your prospects of paying off in time will be better.
Besides a faster approval of credit, a good credit score will make you eligible for a lower rate of interest—one which will be markedly lower than the generally applicable rate. It may save you a considerable sum over the loan period since a small percentage reduction in interest rate can make a big difference to the total payout. Another benefit will be a higher limit on a loan or a higher loan. Many lenders readily agree or follow up with borrowers for top-up loans if they have a good credit score. Often, they consider those with higher credit score for new products and services such as cards with lower rates or even privileged investment services.
How to maintain a good credit score:
There are different ways you can maintain and improve your credit score. Given the aspirational aspects of today’s world, it would be hard to live debt-free or away from some means of credit. If an individual has such a lack of credit history, it would lead to denial of credit since lenders may not have enough details—a payment history at least—to judge an application. Thus, keeping off credit totally would be equally unwise or as good as having a poor credit score.
A good credit history gets built when one makes regular repayment on loans and credit cards on time. Such a behaviour substantially influences your credit score. Remember to make full payments on such regular commitments so that your credit balance (especially on a credit card) remains within your limits. Similarly, never ignore unpaid or overdue bills of any sort. A common mistake is to close old credit cards (in a credit agency’s records) including its repayment history which may take away a supportive case.
If you are planning to take a larger loan like home mortgage, then you must utilise existing credit means judiciously (for example, you may use only 30 per cent of the credit card limit, besides keeping multiple cards to have a higher limit). Always consider paying off the credit card bills in full as a consistent payment of minimum amounts due can be considered undesirable by lenders. One must also desist from applying for too many loans at any point in time or with too many lenders for the same loan. Ideally, one must maintain an ideal mix of secured and unsecured loans. Wherever possible, you may consider paying off expensive credit with savings to reduce the burden.
It is often said that a smart consumer is someone who uses the available credit intelligently, including when not to take or use it. One may also add that this smart consumer will become an intelligent one when he or she understands how a lender favours a better credit score, which in turn brings beneficial terms and a greater quality of life.
The writer is managing director, Experian Credit Bureau, India.