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What is Credit Score? Why is it important?

Seen advertisements promising easy loan for borrowers with higher credit score? Or heard about denial of credit card due to a low credit score? But what is credit score and why is it so important?

What is credit score?

Like we get grades in schools for academic performance, the credit score represents our credit behavior and ability to pay back. It is a 3 digit score which ranges from 300 to 900, where 900 is the highest score.

How is credit score calculated?

The banks and financial institutions send the details of the credit accounts with them to the Credit Information Companies (CICs), who processes the collected information and calculates the credit score. This credit score along with details of credit accounts are made available to the borrowers in the form of a credit report, through online / offline mode.

CICs generally consider following factors for arriving at a credit score –

  1. Length of credit history
  2. Recent defaults in the credit accounts
  3. Repayment patterns
  4. Credit score enquiries from banks to process the credit applications 
  5. Mix of credit, i.e., unsecured loans, personal loans, credit cards etc.

Factors like occupation, income, savings, etc. do not have impact on the credit score.

Why credit score is important?

A good credit score can make it easy to avail a credit at favorable terms like higher loan, lower interest, lower charges, etc., whereas, a low credit score may result in denial of credit or approval at more stringent credit terms.

How to keep good Credit Score?

  1. Always pay dues on time.
  2. Do not borrow heavily.
  3. Monitor loans where you have co-signed, guaranteed or having joint loan accounts.
  4. Avoid applying for multiple loans or credit cards within a short span of time as it may adversely impact credit score.
  5. Maintain a healthy credit mix of secured (such as home loan, auto loan) and unsecured loans (such as personal loan, credit cards). 
  6. Review your credit score regularly and report the discrepancies to CICs.

What if there is a mistake in credit report?

The discrepancy in the credit report can be taken up with the CICs by filing a dispute online / offline.

Can frequent enquiry of credit score affect adversely?

There are 2 kinds of enquiries – hard enquiry and soft enquiry. 

  1. Enquiry made by an individual to know his / her credit score is called soft enquiry. Such enquiries do not affect the credit score.
  2. The enquiries made by banks or financial institutions to decide on a credit application is called hard enquiry. Such multiple enquiries, if carried out in a short span of time, may adversely affect the credit score as it indicates higher credit needs of the customer. 

Free Annual Credit Report to Individuals

With effect from January 1, 2017, individuals can get free full credit report (FFCR) once in a calendar year from each of the 4 CICs, i.e. 4 free credit reports in a year. More than one report can be obtained from any particular CIC at a cost.

Credit Information Companies (CICs) in India

  1. TransUnion CIBIL
  2. Experian
  3. Equifax
  4. CRIF High Mark 

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