Are you out of those people who believe that having a credit score just doesn’t matter? Or those who hold the view that they do not have a credit score? If that is the case, then you need to know that such false impressions are hurting your odds to avail benefits like :
- Getting the best interest rates on a variety of loans
- Purchasing or taking apartments on rent
- Undertaking insurance policies at good rates
- Higher chances of any kind of loan approval
- Increased negotiating power
Thus, it is important for you to have a good credit score as it is usually checked by a number of third parties. These parties include lenders, insurance providers, apartment/property managers etc. Such a score gives an overview of your current financial position. Furthermore, it also gives a view of your past repayment habits to all the potential lenders. These lenders use your credit score to understand the credit risk associated with you in case you happen to borrow loans from them.
It is on the basis of your credit score that the financial lenders place trust in you and extend credit at best interest rates.
So, before we move towards laying forth the ways on how to improve credit score, let’s first understand what is a credit score?
What is a Credit Score?
Credit score is a three digit number ranging between 300 to 900. This number basically tells about the degree of credit risk (high, low or no credit risk) that your lender is exposed to in case he decides to extend the loan to you. But you might be wondering how does a credit score give such information to the lenders?
Basically, Credit Score is based on the information disclosed in your credit report. Your credit report is a statement that gives an account a complete history of your prior debts and their repayments. Credit bureaus such as Cibil, Equifax, Crisil, ICRA etc. use their respective mathematical algorithms to arrive at your credit score. This score is calculated based on the information disclosed in your credit report.
To make things easier, consider your credit score just like your insurance premiums. While calculating the insurance premium, the insurance company is keen on knowing about your lifestyle habits including smoking, drinking etc. and your health. This is because such information helps these companies to know about the risks involved in disbursing the insurance policy to you. Furthermore, it gives them a fair idea about the extent to which you can make larger claims in the near future.
Thus, if you have the habit of smoking, then in such a case, the insurance companies would charge higher premiums. This is because there is a higher risk involved of a serious illness.
What is a Good Credit Score?
Just like the insurance premiums, closer your credit score to the upper limit, that is 900, more financially responsible you are deemed to be. This means that a higher credit score makes the financial institution have faith in your loan repaying capability.
Thus, a score above 750 is considered a good credit score and anything above 800 is excellent. However, a borrower having a credit score either between 500 to 700 or below 500 really needs to work towards improving your credit score.
Here are some tips that can help you improve your credit score.
How To Improve Credit Score?
1. Pay Your Bills On Time
One of the simplest and the best ways to boost your credit score is to pay your bills on time. This is because it gives the potential lenders an authentication that you are quite sincere and prompt in making your payments. Thus, having a history of timely payment of bills makes banks believe that the new debt undertaken by you would also be repaid on time.
As per the experts, past credit performance as a factor holds the maximum weightage in the final credit score. This is close to 35%. Such credit performance includes timely payment towards your EMIs, utility bills, credit card payments etc. Say for instance, if you have not been paying your bills on time or have been missing out on paying your monthly EMIs, it will certainly have a negative impact on your credit score. Thus, it will push your score down.
So in order to improve your past credit performance, you will have to make timely payments for good number of months.
2. Maintain Low Balance On Credit Cards and Other Revolving Credit
After your payment history, the next factor considered while calculating your credit score is the credit utilization ratio. This ratio shows the amount of revolving credit utilized as against the total revolving credit limit available at any given period. Such a ratio accounts for 25% of the total credit score calculated based on the credit report.
Say for instance, you own two credit cards and the total credit limit available on both the cards is Rs 1,00,000. If you utilize Rs 20,000 in each month (which turns out to be Rs 2,40,00 per year), then the average credit utilization comes out to be 20%. Since this percentage is less than 25%, you are not at high credit risk for the lenders.
Therefore, we can say that people with high credit scores have low credit utilization ratios. These low ratios are an indication for the lenders that you know how to manage your credit. Further, it also indicates that you have not utilized the entire credit limit. However, if your credit utilization rate is high, then you need to start paying down your debt. Doing so would bring your utilization rate at a lower level. This is because the credit utilized as a percentage of the total credit limit would be less.
3. Don’t Take Too Much Of Credit
The next factor that a credit bureau considers while calculating your credit score is the amount of money you owe in the form of debt vis-a-vis your earnings.
Having large amount of debt puts you at a credit risk for the lenders as you are close to surpassing your debt taking capacity. This means that you have taken more amount of debt than what you are capable to pay off. It is irrespective of the fact that you are paying your existing bills regularly. This is because the lenders understand that it will be challenging for you to meet your bills in the future owing to excessive loan undertaken.
High amount of debt calls for higher amounts of monthly debt payments eventually putting you at a higher risk of not meeting your debt payments. Thus, to improve your credit score, it is necessary to get rid of excessive debt. Having one or two major debts and taking one or two credit cards can help you boost your credit score. Simply applying for new credit lines would only make your credit score weak.
Therefore, take loans only when you require the same and ensure that you make timely payment of such debts.
4. Aim For A Good Credit Mix and Credit History
Imagine you started off with your business quite recently and hence opened a current account with the bank a few days back. After a few months of doing business, you plan to buy a new car for which you need to avail loan from your lender. On submitting the relevant documents with your lender and after a few days of scrutiny, you are intimated that the lender will not be able to lend you the desired credit amount. The reason given for such a non-approval is a lack of credit history.
Credit history means the number of years that have passed from the time you opened your first credit account. In order to have a good credit score, you need to have a credit history that is stretched over a good amount of years.
Having a long credit history gives an authentication to your lender that you have a fair amount of experience in managing credit. In the above case, it’s been just four months that you opened your first account with the lender. This is taken as having next to no credit history and therefore would compel bank to not extend the credit.
Type of Loans
Further, the type of loan that forms a part of your total credit is also considered while calculating your credit score. Therefore, it is important to have a good balance between secured and unsecured loans. Where secured loans include home and auto loans, unsecured loans cover credit cards.
When your credit mix contains both secured and unsecured loans, it indicates that you have some experience in managing both types of credit.
5. Do Not Apply For New Credit Accounts in a Short Span
Applying for new loans or lines of credit in a short period of time can act as a drag on your credit score. This is because applying for too many credit lines leads to increased hard inquiries on your credit report.
Hard inquiry is nothing but a review of your credit report by the lender with whom who have applied for the loan. Such an inquiry reflects in your credit report, thus, negatively impacting your credit score. This is because applying for new credit accounts in a comparatively short period of time suggests an irrational behavior on your part as a borrower. Thus, the bank is able to determine whether you are applying for single or multiple loans based on the time period between the two applications.
6. Fix Your Credit Report Errors
It is possible that your credit report might contain some errors or negative information that can impact your credit score. Therefore, in order to check for any kind of errors in your credit report, you first need to get in touch with any of the credit bureaus. And ask the concerned bureau for your credit score as well as your credit report.
On receiving the credit report, you should go through it thoroughly and see if there are any errors. The errors could range from a late payment listed incorrectly for one of your accounts or an outstanding amount mentioned too high. Therefore, on identifying the errors, you can write to the credit bureaus and ask them to remove the errors or make further investigation.
7. Check Your Credit Score Regularly
To keep a track of any inconsistencies occurring in your credit report, it is better to check your credit score regularly. In case, you identify anything that you do not approve of, say for instance a charge account that you did not open, you can the credit bureau to fix the error.
At times, these errors could be made by the credit bureau while calculating the credit score. On the other hand, it could also be a possibility that someone else is using your identity. Mistakes like these can also negatively impact your credit score. Therefore, it is important to check your credit score regularly.