Of high & low credit scores

Some time back, a student shared an interesting situation with me. He had approached his nearby bank for a student loan. His loan application was rejected by the bank despite sufficient income of his parents. “The credit score of your parents is bad. We cannot lend you the money,” reads the bank communication. The parents were surprised to learn about credit score, as they were not aware about this kind of score. While seeking exact meaning of credit score from the bank official who had done appraisal of the study loan application, they were astonished to learn about their poor repayment of their earlier loans taken a few years back at some other bank. 

It is worth mentioning here that banks check the credit scores of parents whenever they receive a study loan request. The reason for taking credit scores of parents into account while processing an education loan application is that students will not have any such credit history and as such the parents for being the co-borrowers (as per education loan scheme it’s mandatory for parents to be co-borrowers) of the loan are to be assessed under the credit score system.

Before deliberating upon all about credit scores, let’s have a look at the present scenario when COVID-19 pandemic has emerged as an unprecedented global crisis yet to be controlled.  The pandemic  has not been less than a tsunami for worldwide economy and no geography is immune. As we have been debating about the new norms continually rolled out by the crisis in previous columns, the social, financial and economic impact of this crisis is going to be far reaching. The financial system and the regulations governing it  will be hit by never-seen-before changes, especially in the retail credit market. Consequently, banks will be forced to respond to the changing scenario by redesigning their customer management frameworks. They would be realigning their loaning strategies in line with the COVID-induced new set of risks. Precisely, the banks would be observing extraordinary caution while lending to different sectors of economy, especially in the retail segment, where risk mitigation procedures will be stringent.

In fact, the loan appraisal procedures were already stringent.  If we peep into the pre-COVID banking scenario, we find the banking industry was already crumbling under the burgeoning non performing assets (NPAs) or what is commonly referred as bad loans. Even as huge corporate loans are major contributors to this bad loan scenario which has already put survival of some big banks at stake, it is the retail segment mainly constituting individual borrowers, which was also facing the brunt. The brunt was induced by the banks as they had done away with the liberal loaning policy. In other words, the loaning in pre-COVID crisis had already become more stringent as banks while reviewing a loan application were observing certain stringent risk-measuring tools to decide whether to extend the loan or decline the request.

Now in COVID crisis, the banks have come under never-seen-pressure as they are visualizing unprecedented surge in bad loans in post-COVID era. The loaning norms are going to be more stringent and the prospective borrowers, those who look at banks for financial assistance through varied loan schemes, would be facing tough time while complying to loan eligibility norms.

Now, let’s have a lookout at the issue of credit scores in the context of the student loan which was denied to the parents for ‘bad credit score’. So, awareness about the subject makes a sense.While talking in the context of our J&K, the most interesting part is that most of the customers are unaware that their credit history is at the finger tips of any bank or financial institution. They are unaware that their behavior towards borrowing and repayment of loans earns them credit scores which are precisely defined as good or bad scores.

So, it’s the lack of financial awareness among people here which is a concern. Otherwise, the primary responsibility rest with the financial institutions to make their customers aware about nature and impact of financial transactions of whatever nature they conduct at their outlets. The awareness has not to be confined to the products and services they offer, but it has to be broad based. They have to regularly update their customers about the changing landscape so that total financial discipline in line with the envisaged rules and regulations is observed by them. Nevertheless, a financially disciplined customer is a golden asset for the banks/financial institutions.

What a credit score means?

It’s basically a number summed up on the basis of credit report – a summary of borrower’s past and current borrowing and his/her repayment history. This report is prepared by a credit bureau agency. If a borrower has been regular with his/her loan repayments, credit score is likely to be higher. Precisely, this credit score reveals the borrower’s repayment capacity and even helps the baks and financial institutions to assess the chances of borrower defaulting on the loan.

Meanwhile, when we think of credit scores, mentioning about the Credit Information Bureau (India) Limited (CIBIL) is inevitable. CIBIL, mostly referred in credit scores, is an agency that provides the credit score and report on an individual’s payments pertaining to loans and credit cards. It’s this CIBIL score which shows borrowers’ creditworthiness and indicates the probability of a default on the basis of their credit history.

Remarkably, there are other credit bureaus, namely , Equifax, Experian and CRIF High Mark. It is these credit information bureaus that generate credit reports.

How to earn good credit score?

In the given financial landscape and the stringent lending scenario, it’s inevitable for borrowers to maintain a financial discipline of highest order to register themselves with high credit scores. They should utilize the loan limit efficiently without diverting the funds from the core activity for which the loan has been sanctioned/disbursed. After availing the loan, they have to make it sure that they pay their loans installments well on time. If they own a credit card, then let them pay the bills in full onetime, rather than making a due payment every time. It’s equally important for them to be a guarantor for only those people whom they consider creditworthy. Never allow your cheques to bounce when presented at the bank counter.

Precisely, it’s in the fitness of the things to exhibit a safe appetite for loans and display good financial discipline to earn good credit score.

Does credit report contain details of savings and investments of the borrower?

No. A credit report (also known as CIR i.e Credit Information Report) is an individual’s credit payment history across loan types and credit institutions over a period of time. Wait does not contain details of your savings, investments or fixed deposits.

Will default in repayment of loan by the principal borrower affect guarantor’s credit score?

As all of us know, banks ask for a guarantor for certain loans as a means of security for the loan amount they provide. Let it be clear that a guarantor for any type of loan is equally responsible to ensure the repayment of the loan. In fact, the guarantor is as good as borrower. The guarantor provides a guarantee to the bank that he/she will honor the obligation in case the principal borrower is unable to do so. Any default on the payment of the loan by the principal borrower, will affect the guarantor’s Credit Score as well.

What do high and low credit score determine?

A high credit score essentially means less probability of a default. A low CIBIL credit score reflects high probability of a default.

How to correct errors in CIBIL report?

RBI has made it mandatory for banks to comply with an individual’s desire to access his or her credit report. If a bank declines a credit card or loan application, you can ask for the control number of your credit report. You can then contact CIBIL at info@cibil.com and communicate details of errors in the report.