Friday, 3 May 2013

Applying for loan? Know your credit score first

Your application for a home loan has been rejected by the bank? You are a little annoyed because you don't know why it was rejected as you have never defaulted on any loan repayment , you have always paid your bills on time, and you have submitted all documents — property and income-related — required for securing the loan. Only later, you find out that your application was rejected because of your low credit score. For the uninitiated, a credit score, computed by credit
information companies like CIBIL, Experian or Equifax, indicates your credit-worthiness to the lender.

Most lenders today rely on credit scores and credit reports while reviewing loan applications and those with higher scores are given preference. As per data released by CIBIL recently, over 90% of new credit is sanctioned to people with scores of 700 and above. According to CIBIL, the credit score is calculated after taking into account defaults made by the individual, amount of credit being used, number of loan applications, loan mix and so on. Simply put, default on repayment is just one of the factors that determine your credit score. "Borrowers tend to assume that having a clean repayment history alone can ensure a good credit score.

However, there are several other factors that can influence the score," says Rajiv Raj, co-founder and director of, a credit counselling firm. Of course, repayment history gets the maximum weightage (35%) while computing the scores. "The second-most important fact is the credit utilisation, which accounts for 30% of the score. That is, how much of your available credit you have utilised. The third factor would be vintage of credit - for how long you have been using credit — which gets a weightage of 15%. The fourth factor is account mix — the composition of the secured and unsecured loans in your credit profile. A good mix of credit is important to have a robust score," he adds. Do note, however, that the weightage could vary as per the credit information company.


Even if you are diligent with your EMI (equated monthly installments) payments, the fact that you have obtained multiple loans could work against you. What's more, merely applying for too many loans could drag your credit score down. "Don't apply for too many loans or credit cards as this would mean more enquiries are added on your credit report, which negatively impacts your credit score. Simply because, this credit behavior indicates that you are "Credit Hungry" and implies that you are constantly looking for credit," explains Arun Thukral, managing director, CIBIL. A lot depends on the lender's perception, too. "If a person has applied for too many loans or credit cards, he or she is seen as someone who is credit-hungry . This may not necessarily be a negative factor, but could be a trigger for banks to be cautious while scrutinising loan applications," explains Abhijit Bose, head, retail assets and strategic alliances, DCB Bank.


Lenders, for obvious reasons, see borrowers with a higher share of secured loans as more reliable . "If the individual's loan portfolio is skewed in favour of unsecured loans, it is viewed with caution by banks as this is a sign of irregular fund flows to the customer resulting into an overleveraged customer," Manavjeet Singh, senior president, retail banking, YES BankBSE -1.24 %. Go for secured loans like auto and gold, wherever possible instead of taking the easy way out and swiping your credit card or giving in to calls exhorting you to take a personal loan. It would be wise to have a good mix of all kinds of loans. Rajiv Raj, however, cautions against applying for secured loans simply to boost your score. "Since this is a small component of your score, you needn't worry if you don't have accounts in each of these categories . Also, don't open new accounts just to increase your mix of credit type."

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