Understanding Credit Scores Beyond the Basics
Imagine that you borrowed ₹500 from your friend and promised to pay back the amount within a week. If you do pay on time, your friend will trust you more and may lend you ₹1,000 next time. But if you take too long to pay that amount back, your friend might think twice about lending to you again. That’s how a credit score works-for-the telling banks and lenders the level of trust one has in paying back any money borrowed.
A credit score is a 3 digit number between 300 to 850. It helps lenders decide whether to approve your loan. The higher your score, the easier it will be for you to get loans at better interest rates.
Why Does a Credit Score Matter?
Consider the example:
- Priya with a credit score of 780 applies for an SBI personal loan and gets a 10% interest rate.
- Ravi applies for the same loan with a credit score of 650 and the bank offers him an interest rate of 14%.
For a ₹5,00,000 loan over 5 years:
| Borrower | Credit Score | Interest Rate | Monthly EMI | Total Payment |
| Priya | 780 | 10% | ₹10,624 | ₹6,37,440 |
| Ravi | 650 | 14% | ₹11,634 | ₹6,98,040 |
Priya saves ₹60,600 compared to Ravi because of her better credit score.
Factors That Influence Your Credit Score
Your credit score is affected by five major factors:
- Payment History (35%)
- Paying bills on time will boost your credit score
- Every payment that you didn’t pay can drop your score significantly.
- Suppose if Ravi missed a credit card payment of ₹2,000. His score fell from 720 to 680.
- Amounts Owed (30%)
- This indicates the amount of money you owe in comparison to your credit limit.
- Keep your credit utilization ratio below 30%.
- Example: Neha has a credit card of ₹1,00,000 and spends ₹20,000 per month. Therefore, her utilization stands at 20%, which is ideal.
- Length of Credit History (15%)
- Keep the credit history as long as possible.
- Example: If you have a loan or credit card that is over 5 years old, this should help to build trust with lenders.
- Credit Mix (10%)
- A different combination of loans such as home or car loans with a credit card could raise your score.
- Example: Arjun has an education loan and a credit card, which helps him maintain a stable score.
- New Credit (10%)
- Applying for multiple loans or credit cards in a shorter time period can lower your score.
- Example: If you applied for 3 credit cards in 2 months, lenders would consider you under financial stress.
How to Improve Your Credit Score
Here are easy ways to build and maintain a good credit score:
- Pay Bills on Time: Set reminders or use auto-pay to never skip a payment.
- Reduce Debt: Clear out your existing loans and avoid unnecessary charge activity on the credit cards.
- Avoid Multiple Applications: Apply only when there is a need to borrow a loan or seek for a credit card.
- Keep Old Accounts Open: Closing old credit cards will shorten your credit history and will adversely affect your score.
- Check Your Credit Report Regularly: Sometimes, errors in your report can hurt your score. Fix them as soon as possible.
Conclusion
A credit score is similar to a financial trust report. It allows lenders to determine borrowing conditions. Whether or not they approve a loan request or what the actual interest rates will be. All this is achievable by just focusing on timely payments, low debt to income levels without unnecessary loan inquiries.
Just like keeping promises builds trust with friends, maintaining a good credit score builds trust with banks and lenders. Start today by pulling your credit score and take action steps to improve your future financial options, like taking an SBI Personal Loan at low rates.
