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03 Feb

All You Need To Know About Your Credit Score

  • By Editorial Team
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Your credit score can sometimes turn out to be a very important number for you; it summarizes your financial health from a credit worthiness perspective. The score can have a significant impact on your financials as it is studied very closely by potential lenders when determining the credit to offer you. Having a strong credit score helps you enjoy the best of loans as well as credit cards.

This three digit number is more important than any as it shows how likely you are to repay your debts on time. A high score shows that you pay your debt on time, whereas a low score shows a low likelihood of repayment. Thus, a low score will get you credit at a higher interest rate, while a high score might get you access to low interest rate loans.

The credit score is computed by credit bureaus like CIBIL, Experion, Crif Himark etc.

In this article, we will take you through the basics of credit score calculations, the importance of the scores, finally, how you can improve your score to enjoy the many affiliated benefits. Read on!

How is a credit score calculated?

All credit bureaus have their own metrics for developing the scores of individuals, though the basic methodology generally remains the same. Each bureau comes up with certain key attributes and assigns certain weights to each. Then using historical behavior exihibited by the individuals, the individuals are scored on each of these attributes. To develop the final credit score, the scores against each attribute is aggregated using the pre-assigned weights.

Listed below are some key attributes which are used for credit scoring:

  1. Payment history: Payment history is the first thing a lender will want to know about you. It provides information about the past loans that you may have borrowed and also reflects on your ability to repay in the future. Prepayments or on-time payments help increase the score on this attribute.

  2. Amount owed: The next important information is the amount you owe. It does not necessarily mean that you have a low credit score if you owe a large amount. Though, having too many loans concurrently is not advisable, as lenders see it as risky and avoid lending.

  3. Length of credit history: It is believed that a longer credit history leads to a higher credit score. Although, people who do not have a long credit history can also hold a high score based on other aspects of the report. The length takes into consideration the duration of the specific credit accounts, the time period since you used them and the duration since the accounts have been established.

  4. Credit mix in use: Various credit mix in use, may include, mortgage loans, retail accounts, credit cards, installment loans and finance company accounts. The entire mix forms your credit report based on which the credit score is determined.

  5. New Credit: The opening of a large number of credit accounts at the same time demonstrates that the individual is a potential high risk and indicates propensity towards fraudulent behavior. Thus, it is advisable to not open a lot of new accounts rapidly, shopping for new credit should be delayed until the current borrowings are paid off.

Why is a credit score important?

  1. Easier access to funding: The most important aspect of holding a positive credit score is the access to funding. The approval of credit by banks or financial institution depends on the credit score you hold. A good score will help you avail a home loan, credit card, personal loan, mortgage loan or any other type of loan with ease. A bad score will lower your chances of receiving any funds.

  2. Favorable loan structuring: It enables you to seek the most suitable terms in case of a short term, medium term or a long term loan.

  3. Lower interest rates: A good credit score ensures that you get the benefit of a lower rate of interest for secured as well as unsecured loans.

  4. Greater negotiating power: A good credit score puts you in a better negotiating power with the bank or financial institution. When you hold a positive credit history, you can negotiate your terms with the lender and benefit on the loan.

  5. Security deposits may not be required: Most loans require you to provide a security deposit which depends on the amount of borrowing you seek. With a good credit score, you may not have to provide a security deposit when you borrow.

  6. Higher limits: A positive credit score enables you to seek higher credit and enables an increase in your limits.

  7. Lower processing fees and other charges: With a good credit score, you can easily cut down on the processing fees and other charges that various banks and financial institutions seek.

  8. Long term benefit: Even if you are not looking for a loan right away, a good credit score will help you in the future. It will become much easier to get a housing loan if you have a positive credit score. If you are looking to rent a house, the credit score will make your process much easier.

How to improve your credit score

  1. Know your current score: The first step to improving a credit score is by knowing the score you hold. Check your credit score on the various credit bureau’s websites and see where you are standing.

  2. Resolve credit report discrepancies: Your credit report will display the score and help you gain an insight into any discrepancies present. To resolve the same, you need to follow up with the lender and make sure any errors are immediately rectified and the information updated.

  3. Try and consolidate debt: This will make it easy for you to repay and also put an end to the hassle of remembering different dates of repayment. If you have two or three loans running concurrently, you can consolidate it into one.

  4. Clear existing debt: The easiest way to improve the credit score is by clearing the debt. Do not let the debt pile up, instead begin with clearing the small loans. If you have overdue credit card bills, repay them and move to other loans. Unpaid balance will keep adding on interest and it will have a negative impact on your credit score.

  5. Don't withdraw cash using a credit card: Avoid using the credit card for cash withdrawals, as it shows that you are unable to live within your means. This is a red flagfor many lenders.

  6. Only seek funds if you need them: Unnecessary opening of credit accounts leads to a negative impact on your score. Every loan application means an additional burden of repayment and affects the credit score.

Holding a good credit score is highly important from a financial management perspective. It is essential to be aware about how the score is calculated so that you can either maintain the good credit score or work towards a better score through various ways. Remember maintaining good spending habits will help in a good credit score, this will go a long way in wealth creation.

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Did You Know

Pre/Part-Payment

Pre/ Part-payment of a loan is the early repayment of principle by a borrower, in part or in full. This is usually done as result of optional refinancing to take advantage of lower interest rates or the borrower may have received money from elsewhere, which he or she is using to reduce their loan obligation. This also results in a reduction of the monthly EMI amount.

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