Your credit score is a very important metric that financial institutions use to assess your creditworthiness. This is precisely why many financial experts continue to stress upon the need to maintain a good credit score. However, if you’re new to this concept, or if you would like to know more about credit scores, here are all the details.
What is a Credit Score
The credit score is a three-digit number that indicates just how creditworthy an individual is. It is used by financial institutions to assess the risks posed by a proposed borrower. And it helps identify how likely it is that the borrower will make their repayments on time without fail.
The credit score is calculated by different Credit Information Companies (CICs) such as TransUnion CIBIL, CRIF and Experian, among others. These companies are responsible for maintaining credit histories of individuals. They assign a credit score to each individual based on several other factors, which we will get into later.
The CIBIL score is the most commonly used credit score. It is essentially a scale that starts from 300 and goes all the way up to 900. The higher you are on the scale, the better your creditworthiness is. Generally, financial institutions tend to favour individuals with scores of 750 or higher, since they’re perceived to be less risky and more inclined to repay what they borrowed.
The Difference Between Credit Score and Credit Rating
Contrary to popular opinion, credit scores and credit ratings are not the same. A credit score is assigned to individuals by Credit Information Companies. A credit rating, on the other hand, is assigned to companies, debt instruments, and government entities by Credit Rating Agencies (CRAs).
That’s not all. While credit scores are three-digit numerical numbers ranging from 300 to 900, credit ratings are alphabetical and range from AAA to D. Financial institutions look at credit scores before granting loans and other credit facilities to individuals, while investors look at credit ratings before investing in companies or their debt instruments.
Why Your Credit Score is Important
When you apply for a loan or a credit facility, one of the first things that financial institutions ask for is your credit score. Lenders typically refrain from granting loans and other credit facilities to individuals who have poor credit scores of 700 or less. That’s how important credit score is when it comes to borrowing. Without a good score, it can be extremely tough for an individual to get a loan at favourable interest rates.
That’s not all. There are several other advantages that you get to enjoy when you possess a good credit score. Here’s a quick look at a few of them.
- Access to attractive pre-approved loan offers
- Low interest rates
- Access to better terms on loan obligations
- Better chances of getting loan approvals
- Access to higher loan and credit card limits
Factors That Influence Your Credit Score
Now that you’ve seen the importance and advantages of having a good credit score, let’s take a look at some of the key influential factors that have the potential to affect your score.
One of the major factors that influence your score is your repayment history. Missed debt or EMI payments will negatively impact your credit score, whereas on-time payments will give it a positive boost.
Length of Your Credit History
The longer the credit history, the higher your score is likely to be. Individuals with short credit histories may not enjoy a high enough score on the scale. However, as you continue to build your credit history in a good way, you can also witness your score rising.
The amount of debt that you have also influences your score. If you utilise more than 30% of your total credit card limit, credit information companies may consider you to be credit hungry. This is likely to reduce your score accordingly.
The kind of debt that you have also has an impact on your credit score. Having too much of just unsecured debt can lower your score. However, a healthy mix of both secured and unsecured loans will impact your score positively.
When you apply for a loan or a credit facility, financial institutions usually do something called a hard inquiry into your credit profile. Too many hard inquiries in quick succession can negatively impact your credit score, because you will come across as desperate for credit.
This should give you a better idea of credit scores, credit ratings, and the factors that influence the score. To ensure that your score remains healthy, always make sure to pay all of your debt obligations on time before the due date. And remember to use only 30% or less of your total credit limit.