When you apply for credit of any kind, lenders need to determine your creditworthiness in order to secure themselves against potential losses. There are many factors that determine a person’s eligibility, but the primary indicator of creditworthiness and ability/interest to honour a debt is the CIBIL score (or Equifax/Experian, depending on which credit information bureau your lender prefers).
Most new borrowers and those who’ve been unable to keep up with payments, etc. have credit score too low to be considered for a loan by any bank. But by following a few easy steps and judiciously planning and managing finances for a little while can get your credit rating up to a highly respectable score.
Types of Credit:
There are two types of credit: installment and revolving.
- Revolving credit: There is no set balance or end date for this credit type. You need to pay a minimum amount every month. You may pay more than the minimum amount, but that is not mandatory. The most common type of revolving credit is a credit card.
- Installment credit: This type of credit has an end date and has a payment due every month. Loans and mortgages are examples of installment credit.
What does not get counted in the credit mix?
The title loans and payday loans do not get counted in credit mix. These two loans have no impact on your credit score as they do not get reported to credit bureaus. However, if you don't pay these loans on time, the collection agency might reflect it as credit. In simple words, these loans don't boost your credit score, but might affect it negatively.
- Credit cards. They aren’t just plastic money for when you’re broke or want to book a flight ticket, they’re incredibly useful instruments in the short-term finance game. They are short term lines of credit that are extended to you by a bank. When using your card, make sure that:
- You will definitely have enough to pay off your purchase within 20 days.
- No matter what your repayment period is, ensure that you have the means to clear off your credit card debt at least 5 days before it becomes due.
- Use your credit card for small purchases even if you do have the cash on hand, and pay these bills off before the due date.
- Keep your credit card usage regular and consistent – approximately the same amount of expenditure each month.
- Calculate all purchases with the interest rate on your card. Pay it off before the interest amount becomes huge, and before penalties start applying.
- Secured loans and unsecured loans. A secured loan is one that’s obtained after placing something as collateral or security, which the lender can take possession of in case of a default – hence securing it against a loss. An unsecured loan is like a personal loan where the lender doesn’t really have any collateral to rely on. A borrowing history with more secured loans than unsecured loans is preferable, and your credit report will contain these details as well. A home, mortgage, or car loan will work to your advantage better than a personal or travel loan. But always remember that a whopping 35% of your credit score is solely based on your repayment history, so whatever type of loan you take, make sure you pay it off in full and on time. Never arrange for a “settlement” with the bank as there are very few things that could damage your score worse than this.
- Credit mix. Paying off a loan while simultaneously paying off credit card bills may be a bit of a hassle, as you will be left with almost none of your salary after payments. But a good mix of credit being paid off every month boosts your credit score through the roof – and fast. Regular EMIs on an unsecured loan and properly planned credit card payments, or credit card payments mixed with EMIs on car and home loan will instil a sense of confidence in the bank with regard to your ability to manage money. The bank will then report this excellent credit behaviour to the credit information bureau and not only will this boost your score, an added report will be available detailing the way you handled paying off multiple EMIs and card dues.
- Guarantors and co-applicants. Standing guarantor on a loan means you’re just as responsible for it being repaid as the original applicant. A guarantor is a kind of security for the bank, and loans taken with guarantors count as secured loans. While it’s obvious that you should never stand as a guarantor on a loan taken by a person you don’t know or trust, sometimes even those with excellent credit scores can default – and this default will result in a negative score for you. Details of all debt you’re involved in are given to the credit information bureaus. Standing as a guarantor for a loan you’re absolutely certain will be repaid will result in positive reports, scores and details being reported by the bank for all parties involved. As a co-applicant on a loan, one can ensure that higher loan amounts are disbursed by the bank on better terms, as there are two people directly responsible for the actual repayment of the loan – and there are two incomes through which EMIs can be paid. Co-applicants and guarantors get as much credit or flack as the original loan applicant in credit reports, depending on whether the loan is repaid properly or not. Also, standing as a guarantor on a loan is one of the only ways to increase your CIBIL score without any expenditure whatsoever. Your credit score will rise as much as it would with regular credit card usage, but here you aren’t spending anything in the way of regularised payments – the primary loan applicant takes care of that.
- Manage money carefully. Although this article promotes the use of multiple (up to 2) credit products simultaneously to increase your credit score fast, it must be kept in mind that before taking any kind of credit – you must be absolutely sure (through the use of EMI calculators, etc.) that you are earning enough to pay back all the debt, every month, and have enough leftover to survive. You must also be absolutely certain that you aren’t going to abandon your source of income (by quitting your job or shutting down your business) until the entire tenure of your debt is completed. It’s quite a commitment you’ll have to make, but it will pay off in the long run.
Using your credit card in this way shows the bank (and in turn the credit bureau) that you are capable of handling credit, and managing your finances in such a way that enables you to pay your bills on time every month. This raises your credit score slowly and steadily.
Use up to 2 credit products simultaneously (preferably secured loans and credit cards) – find a good mix between different types of affordable and well-planned credit – and make sure you earn enough to pay all this back every month. If your credit score is too low for a credit card, stand as a guarantor on a loan, or co-apply for a loan with your spouse.
Getting your credit score high enough for loan applications to go through without a hitch is an uphill battle, and you’ll need to be well prepared for it. Calculate how much you make vs. how much you’ll be spending, and make smart, well-informed decisions. Never over borrow, and never underpay. Never, ever reach a “settlement” with the lender.
Diversify your debt, stay in control of it at all times, and keep your credit score ready for that one big loan you’ll need one day to make your financial dreams a reality.
CIBIL Related Articles
- Personal loan for cibil defaulters
- Low credit limit despite a high income?
- How Making Minimum Payments Can Affect Credit Score?
- Tread with caution before co-signing a home loan
- What does DPD on your CIBIL report stand for
- Study Abroad the Smart Way
- Truth About Pre-Approved Credit Cards
- Ways to rebuild your CIBIL Score after bankruptcy
- CIBIL Redressal Process
- Company Credit Report