22 Nov 2019 | 5 min read
Credit score is a 3-digit number that ranges between 300 and 900. It helps a lender to decide whether a loan can be given to a person or not. Not only does it help you get a loan, but it also helps you get a loan at a lower interest rate if your credit score is good. Having a credit score of 750+ can attract various offers on loans or credit cards. But there are many myths around a credit score that prevent potential borrowers to apply for a loan whenever they need one. Every one of us is affected by these common myths, more or less. This article aims at laying to rest the myths surrounding a credit score.
Higher debt does play a crucial role in calculating the CIBIL score but it’s not the only parameter that a credit bureau looks into. So, what are the other factors that are used to calculate a credit score? Well, to get the right answer, you must get insight into the process that consists of 4 factors responsible to project a credit score.
Behaviour of steady, high or rising credit utilization ratio contributes to 25% in a credit score
Restrict your credit-card usage to 50% and avoid taking multiple loans within a short period
Track record of past credit history including timely, delayed or missed payments has a contribution of 30%
Always make timely payments of all loans.
Types of credit and duration
Mix of secured or unsecured loan that an individual is enjoying comprises 25%
Keep the ratio of unsecured loans below 30%. Avoid having multiple credit cards.
Recent track record of credit applications or multiple loan enquiries comprises 20%
Don’t apply for multiple loans within a short period. Spend actively using your credit card to build a credit score.
So, don’t decide on others' advice to take a loan. As long as you make timely payments towards your credit, your CIBIL score remains invincible.
Many applicants think if they don’t take any loan, their credit score will be good. Well, this common myth has no relevance but it can lead to rejection of your loan application. While receiving the loan application, the lender looks for a credit history. If you have taken no loan, that means there is no credit history (NH or NA). It means, your credit report has nothing to show about your past credit behaviour. When a lender sees a blank credit history, it confuses him to sanction a loan as he can’t make the decision on your credit history.
So, as a fresh applicant, your emphasis should be on building credit history. To make a credit history, you can take a small personal loan, a credit card, or any other loan. As you make timely payments towards your credit, your credit history builds and makes you eligible for a good amount of loan.
Many individuals think helping an uncreditworthy borrower by being a Cosigner does not affect the credit score.
“Co-signing can become a curse because the Co-signer, the one that has the better credit, holds the greatest risk. “- The Credit Repair Book.
When you co-sign a loan, you apply for the loan. It means that if the primary borrower does not repay the loan, the co-signor will have to repay the amount in full. Like any other loan, these loans also appear in your credit history. However, the primary borrower may not have bad intentions but something unexpected such as a sudden accident or job loss may happen and refrain him repaying EMIs on time. So, beware because cosigning can make it difficult for you while getting a loan in the future if the primary borrower has not repaid his loan. However, if he timely repays the loan, it can help you build your credit score.
Generally, people think a person having a higher income has a good chance of getting a loan. Well, if you’re one of them, then you’re on the wrong path. A higher-income can increase your chances of getting a personal loan, but it doesn’t affect your credit score directly. While preparing your credit report, credit bureau looks into your credit information, including the type and number of loans and credit cards you have or have had in the past, credit repayment history, and recent loan enquiries.
However, a good income can help you get a higher loan amount but it has no direct relationship with the credit score. So, what are the factors that a lender consider while evaluating your personal loan application?
When a lender receives a loan application, with the help of credit report it calculates your debt to income ratio. This ratio tells how much monthly obligations an applicant has. If the lender finds that your debt- to- income ratio is above 50%, then it can reject your loan application. This is a cautious step that a lender performs as it knows that a borrower is under the credit burden and it will be difficult for him to pay the EMIs later on. In simple words, higher income does not play a decisive role in deciding the eligibility criteria but the debt-to-income-ratio surely does. So, as a smart borrower, know that both credit score and adequate income are necessary to take a loan, but there is no direct relation between the two. Many lenders these days provide loans to individuals having a salary of 15,000. But it’s important to know, only those who have a debt-to-income ratio below 50%, can take the loan.
Sometimes when people don’t find a suitable amount for their needs or in the need for a lower interest rate, they make multiple enquiries. However, multiple loan enquiries impact your credit score only if it’s a hard enquiry.
When you apply for a loan, the lender asks for a credit report from the credit bureau and they term the process as a hard enquiry. Since it’s a hard enquiry, the credit score gets affected negatively. The lender sees that if an individual recently has taken multiple loans and credit cards or not, as they see this as a credit burden, hence it affects the credit score negatively. But if you’re searching for better deals on loans such as the lower interest rate, lesser processing fee, etc., you can do it without making a hard enquiry. Since these enquiries can’t be labelled as hard enquiry, as a result, your credit score remains unharmed. So, if you’re making soft enquiries to check interest rate and other offers on loans, you can do it multiple times without worrying about the impact on the credit score.
It is a common misconception that many people have that checking their credit score will affect it negatively. This is the reason they never check their credit score. However, checking doesn’t impact it but ignoring may. In a recent survey, it is found that 74% of Indian consumers check their credit score twice a year. By checking your credit score, you not only become eligible for loan, but you can also see, monitor, or report any changes in relation to your credit report.
Besides this, as a borrower, you must know about the difference between a hard enquiry and soft enquiry. When you check your own credit score, it is considered a soft enquiry and doesn’t affect your credit score, as it does not appear on the credit report. On the other hand, when you apply for a loan, the lender fetches a credit report from the credit report and this enquiry gets listed on the credit report, hence your credit score gets affected.
“To be truly financially healthy, monitoring the information in your credit report should be treated as a credit health management exercise and should be done regularly.” Hrushikesh Mehta, vice president of TransUnion CIBIL’s Direct-to-Consumer business.
Checking your credit score at regular intervals helps you see your performance and make timely decisions to improve if there is an error. So, next time when you check your credit score, check it without worrying about the negative impact on your credit score.
It is believed by many people that there are no additional benefits of having a perfect credit score. They think a credit score of 750 is treated same as a credit score of 850+. However, some benefits are only available for applicants with a perfect score. Some lenders give special offers to borrowers with 850+ credit score.
As a smart borrower, it is your responsibility to know the difference between the truths and lies that are being spread about a credit score. You must know about the credit score computation method and lots of other factors revolving around it. Also, know the process of building and improving your credit score. As long as you are aware of it, you will experience no difficulty while getting a loan.