You’ve naturally heard about credit scores or CIBIL scores and how they’re so important when it comes to availing of loans for making those dream purchases you’ve been eyeing or simply covering for something. Indeed, credit scores are important, particularly when you view them in the light of a basic principle. This is the fact that by maintaining a good credit score, you invest time, energy, effort and even money at times into keeping yourself highly credit-worthy for the future. What happens is that a good credit score will automatically reward you in the long haul, particularly when you’re about to take a home or auto loan and want a smooth process with your bank.
Good habits always go a long way when it comes to credit. Your credit score assumes more importance in the current scenario as you will find out below.
Why the credit score of an individual matters more than ever now
From the 1st of October, 2019, all retail loans with floating rates have been tied to external benchmarks. This includes home loans and auto loans as well. This new mechanism now comes with a specific provision which allows banks/financial institutions to categorize borrowers on the basis of their credit score. This is because the interest rate to be paid by the borrower is influenced by his/her credit profile. Credit risk premiums charged over and above the basic rate of interest will vary for customers, depending on their risk profiles.
Banks will majorly use borrower credit scores assigned from bureaus for ascertaining the risk category. The credit score is the reflection of a borrower’s overall creditworthiness. Those who have good credit scores are naturally deemed to have higher probabilities of repaying loans in a timely manner. Banks are now shifting towards pricing systems for loans which are based on risks and they are attempting to attract people with good credit scores by offering lower credit risk premiums as per reports.
Some of the leading banks in the country like Syndicate Bank, Bank of Baroda, UCO Bank, Union Bank of India and Bank of India among others, have already started tapping into credit scores of borrowers for working out the risk premiums for home loans with floating rates of interest. For example, suppose you have an extremely good credit score of at least 760 or more. In this case, you can easily get a home loan sanctioned by Bank of Baroda at an interest rate of 8.1% which is on the lower side. Yet, if the credit score reduces from the 760 threshold, you may have to fork out an extra 0.25%, taking the final interest rate to around 8.35%. In case your credit score is lower than 725, an extra 1% will have to be paid, taking your final rate of interest to 9.1%. Several banks are also making use of internal consumer ratings and other aspects for working out risk premiums of borrowers. Yet, the credit score continues to be of paramount importance in determining the final rate of interest that you get on your home loan or any other retail loan.
Keeping your credit score intact is very important
The credit score is always dynamic and it keeps changing on the basis of your repayment and borrowing history over a period of time. As a result, the rate of interest of the loan tied to the external benchmark will also keep changing periodically since it will not be fixed to the initial rate of interest at the time of loan disbursal. For maintaining the same rate of interest, borrowers have to maintain their credit scores as well. They will have to ensure that their scores do not come down majorly throughout the tenor of the loan.
Any credit score fluctuations will now pinch borrowers harder even in case of loans with shorter tenors. Quarterly assessments will be done for borrowers by most banking institutions for finding out updated credit scores and overall behavior in terms of repayment of loans. Banks now have the go-ahead to change the rates of interest in the new regime in case there is a major change in the credit history and score of a customer. Borrower credit scores will thus be measured every quarter as mentioned earlier. Any sudden reduction in the credit score may lead to an increase in the interest rate on the loan of the borrower as per experts. Union Bank of India, for example, has a 0.25 premium for CIBIL scores of at least 700 and more. However, this may be jacked up to 0.3% in case the CIBIL score reduces below the 700 mark.
The core take-away
Maintaining a good credit score will give you significant long-term rewards in terms of getting lower rates of interest on home loans and other retail loans. Additionally, preventing any fluctuations in the credit score will help you keep the lower rate of interest throughout the entire loan tenor. Your good habits in terms of credit management are the game-changer here. Make sure that your loan repayments are made on or before the due date both in cases of home loans/auto loans and other loans along with credit card debt. Always strive to maintain a healthier ratio of debt to income and also refrain from applying for credit cards from several lenders together.
Always make sure that cheque bounces and other defaults are strictly avoided by all means. These are measures that will go a long way towards boosting your credit score and keeping it intact. In turn, this will enable sweeter rewards in the form of lower rates of interest on your loans.