Risk based pricing of credit instruments is a trend that’s gaining ground in India
today. What that means is – the higher your credit worthiness, the lower interest
you pay on any borrowings.
My young cousin, Naren, recently went to a Honda car showroom, full of
excitement and eagerness to buy his first car. He is a young IT engineer who
has just started his first MNC job in Bangalore. When he enquired about the car
loan options available to him, the loan executive assessed my cousin’s CIBIL
credit score. He found that to be 1! Immediately, the loan executive suggested
to my cousin “Sir, take the loan in your elder brother’s name. He will get it at
7%, whereas you will be charged 7.4%. There are some important financial
principles that we can understand from this incident. Let’s figure out the answers
to some questions that many of you may have.
What is a Credit Score? Who calculates them?
A credit score is a numerical value that represents how credit worthy you are. A
credit score is a 3-digit number that ranges from 300-900.
It is calculated by the four credit bureaus in the country- TransUnion CIBIL,
Equifax, Experian Credit Information Company and High Mark Credit Information
Service. Each credit bureau has its own proprietary algorithm that is used to
compute the credit scores. CIBIL scores are the most popular in India.
Why is Naren’s credit score low?
He doesn’t have a credit history. He is a fresher out of college, just joined his
new job. He has just received 3-4 months of salary, till date. He doesn’t have a
credit card yet. He has never taken a loan on his name. He has not yet filed IT
returns, as this is his first year of employment. All these factors combined make
him an unknown quantity to a loan institution like banks or NBFCs. That’s why
there is a risk premium attached to his loan. So, the bank will offer him a loan at
a slightly higher interest rate.
What is an ideal credit score?
As a convention, a credit score of 750 and above is considered a good one. That
means, your chances of getting a loan are higher if your credit score is above
750. And the interest rates you are offered will also be lesser. Your credit score
is not a fixed, one-time score. It will keep varying with your financial activity.
For instance, if you take a loan and repay it on time, your score goes up. You
default on your credit card payment, your score will fall. It is recommended to
generate your credit score roughly once a quarter, if you are looking to borrow
The reason why the loan executive asked Naren to apply for the loan in his elder
brother’s name was precisely because his elder brother had a very good credit
score, being employed for several years already.
How is credit score evaluated?
Credit score is an automated calculation, made by the tools used by credit rating
agencies. There are 5 critical factors that are considered during evaluation.
- Your existing loan liabilities and your promptness in meeting them
- Your past loan repayment record
- Percent of your credit eligibility that you have already utilized
- Credit mix of secured and unsecured loans taken
- Number of credit accounts held in your name
What are the mistakes to avoid to maintain a good credit score?
- Delays in paying monthly installments is the biggest black mark against your record. If you are used to paying just the minimum amount due on your credit card, your outstanding loan amount will keep growing. If you default on a bank overdraft, that’s another major negative point against you. So, ensure that all your EMI repayments happen on time.
- Borrowing more than 30-40% of your available credit limit is another mistake. Maintaining a healthy credit utilization ratio is important.
- Very high credit card limits are not good either. Firstly, they tempt you to borrow more as it makes borrowing look easy. Also, you become a high credit risk candidate for subsequent loans.
- Not verifying your past credit record. There have been instances where spurious loans have appeared in people’s names, loans that they never took! When governments announce loan waivers or subsidies, some miscreants misuse other people’s names and create fake loan accounts. So when you actually go for a loan, your past loan record may show entries that you have no idea about! Immediately approach the bank/financial institution which shows the spurious loan account in your name. Get your record cleared. It’s vitally important to have a clean record so that your credit score is unaffected.
MAINTAIN A HEALTHY CREDIT SCORE. FOLLOW A DISCIPLINED REPAYMENT
SCHEDULE. BORROW AS LITTLE AS POSSIBLE. THAT’S THE QUICK TAKEAWAY
FOR ALL BORROWERS.
But what if you do not have to borrow at all? What if you can arrange for
meeting your expenses without getting into debt and being burdened by ever
increasing interest liabilities? Sounds good? It’s very much possible, just
requires a little bit of advanced planning and smart decision making.
Chit Funds – an attractive alternative for borrowers to raise money
A financial instrument which can serve as a viable alternative for many of your
financial needs is chit funds. Chit funds may sound like a completely different
kind of financial instrument. But in many ways, chit funds can help you in
getting rid of the credit card/loan debt trap. How, you may ask. A quick
- Chit funds by design are a dual purpose financial instrument. They are an easy mode of saving as well as borrowing.
- For known expenses that you are likely to incur in the short to medium term, you can plough in your excess revenue into an appropriate chit fund scheme for a tenure of 2-3 years. So when it’s time for the actual expense, your money is ready to use! No debt, no interest.
- If in the mean-time, you are faced with a financial emergency, the chit fund gives you a quick liquidity option to tide over the crisis.
- In a chit fund scheme, even if you pull out the entire amount early, your monthly payments cover both the principal and interest. Thus leaving you debt free at the end of the tenure.
Interested? Want more information? Get in touch with us. We will be glad to
Shanthala Chits has been in the business of chit funds for over 2 decades now.
We are a Government approved chit fund company with a 25 year successful
track record and thousands of satisfied customers. Shanthala Chits is registered
under the Chit Fund Act of 1982, Government of Karnataka. We are one of the
most popular chit fund houses based out of Bengaluru, known for our customer
satisfaction and secure investments. Get in touch with us and start with an
investment scheme. We will be glad to help you out with the right scheme that
matches your needs.
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