What is CIBIL score and why credit score matters

For every individual whether working professionals or self employed or entrepreneur and who wants to take loan for any reason be it home loan, business loan, mortgage loan, personal loan, two wheeler loan or a credit card, a CIBIL score is must.

What is the ideal CIBIL score in order to be eligible to get a credit card, home loan or personal loan?
Ideally, it should be minimum 700, 750 is better and 800+ is best. My current credit score is somewhere between 720 to 770 depend on various factors (checked from creditvidya.com although I advise my readers to take precaution while checking it free from there as they may use your data. If you want to know your right score, please shell out around 470 and apply through ICICIdirect.com or through cibil.com). 

In old times, (even around 10 years back) whenever you wanted to apply for a loan, you had to visit all the branches in your vicinity and take signature of the bank managers stating you do not have outstanding. The same process is replaced now by CIBIL score. On the basis of your loan history, your credit card history including usage they assign various points (although I hate their system as they consider that you are good in credit if you are using only 10% of your credit card limit (and they consider your six months transaction records). If you are using it for friends, for official purpose then how the 10% limit is possible?
Further, now people prefer spending using credit card (whoever has it) then the 10% limit is a nonsense. I asked clarification from CIBIL for my score last time, they were clueless. 


Why is my Credit Score important for getting my loan sanctioned?
The CIBIL TransUnion Score plays a critical role in the loan application process. After an applicant fills out the application form and hands it over to the lender, the lender first checks the credit score and credit report of the applicant. If the credit score is low, the lender may not even consider the application further and reject it at that point. If the credit score is high, the lender will look into the application and consider other details to determine if the applicant is credit-worthy. The credit score works as a first impression for the lender, the higher the score, the better are your chances of the loan being reviewed and approved. The decision to lend is solely dependent on the lender and CIBIL does not in any manner decide if the loan/credit card should be sanctioned or not.


What major factors affect my credit score?

There are 4 major factors that affect your score

1. Payment history
   Making late payments or defaulting your EMIs or dues (recently or consistently) shows you are having trouble to pay your existing credit obligations and will negatively affect your score.
    
2. High utilization of Credit Limit
   While increased spending on your credit card will not necessarily affect your score in a negative manner, an increase in the current balance of your credit card indicates an increased repayment burden and may negatively affect your score.
    
3. Higher percentage of credit cards or personal loans (also known as unsecured loan)
   Having a balanced mix between the secured loans (such as Auto, Home loan) and unsecured loan (such as Personal loan, Credit Card) is likely to have a more positive affect on your score.
    
4. Many new accounts opened recently
   If you have recently been sanctioned multiple loans and credit cards, then lenders will view your application with caution because this behavior indicates your debt burden has increased increase, which will negatively impact your score.

In my case, my mother is not an earning member but was co-applicant for my sister's flat (as she wanted to keep my mother nominee so it was mandatory). However, the bank increased its EMI and did not send us letter asking to increase amount in our standing instruction and due to this, she faced problem. So be cautious, you may be good in credit but being guarantor for somebody also hampers your score).

So how do banks make loan and credit card granting process?

LOAN EVALUATION PROCESS

Taking a loan can be a complicated process for most people. The illustration below indicates what to expect at every step during the loan evaluation process. It helps understand how the credit decisioning works in banks and the steps they take before deciding to accept or reject a loan/credit card.

APPLICANT FILLS AN APPLICATION FORM

 

HANDS IT OVER
TO THE BANK

 

BANK CHECKS WITH CIBIL FOR CREDIT SCORE AND CREDIT REPORT

 

HIGH CREDIT SCORELEADS TO ELIGIBILITY CHECK BASIS DOCUMENTATION

Loan credit score leads to rejection

 

Banks then proceed to check your Credit Information Report along with income demographics and other documentation

 

A CREDIT SCORE 750 IS
GENERALLY CONSIDERED A GOOD SCORE

79% of the loans or credit card disbursed are to individuals with a CIBIL TransUnion Score greater than 750.

Non eligibility leads to rejection of application

 

Eligibility will lead to loan approval

WHAT DO THE BANKS BROADLY CHECK FOR?

• Suite filed or written off cases reported in the Credit Information Report [CIR]. This is indicated in the 'Account Status' section of your CIR
• Payment history trend - if there has been any default or amount overdue. This is indicated in the 'Days Past Due' [DPD] field of your CIR
• Company profile where you work - the banks generally have an approved list to whom they extend loan / credit card.
• EMI to Income ratio: if your current total EMI exceeds your monthly salary by more than 50% then chances of getting loan are reduced. Let's take the help of an example to understand this further.

DETERMINATION OF ELIGIBILITY

 

Case 1*

• Income :  50,000
• Total EMI's being paid :  10,000
• EMI to Income Ration : 20% [10,000 / 50,000]
• Rule of thumb EMI to Income Ratio: 50% [lenders assume you will need half salary for living expenses].
• Total Borrowing Capacity : 50% *
   50,000 =  25,000
• Total Incremental EMI that individual can afford :  25,000 -  10,000 =  15,000
• Basis this EMI, total additional loan that may be sactioned at an interest rate of 10% over 20 years =  15,00,000

LOAN APPLICATION IS LIKELY TO GET APPROVED

 

Case 2*

• Income :  1,00,000
• Total EMI's being paid :  50,000
• EMI to Income Ration : 50% [50,000 / 1,00,000]
• Rule of thumb EMI to Income Ratio: 50%
• Total Borrowing Capacity : 50% *
   1,00,000 =  50,000
• Total Incremental EMI that individual can afford :  50,000 -  50,000 =  0
• Basis this EMI, total additional loan that may be sactioned at an interest rate of 10% over 20 years =  0

LOAN APPLICATION IS LIKELY TO GET REJECTED

* indicative example

Source: cibil.com

https://www.cibil.com/loan-approval-process

Also please note that even if you have  a good score but if your locality is in the list of blacklisted area, bank may not grant you credit card or loan. I hate such classification in today's era. In Mumbai, these areas are: Vasai, Virar, Mira, Bhayandar, Govandi, Sion, Kurla, Mumbra, Kalwa, Bhiwandi etc. Also few people may get loan but not residing in these areas. 

So

So, what should you do for a better credit score and to improve your existing credit score?

Do not apply for too many credit cards or loan. Before applying ensure with those companies that they are issuing credit card, then only do it. 

If you have defaulted loan/ credit card outstanding, please do not pay it at once, clear then over the regular time. 

Do not become co-applicant or guarantor for anybody if you are not sure about the person's credit history. 

Always get credit score from CIBIL at least 6 months in advance before applying for vital loan.

Always pay at least minimum amount due to credit card outstanding. This also help to improve your score. 

I hope this article will be useful for you.