Factors That Affect Credit Score: Critical Insights - Loan Trivia


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Wednesday 13 March 2024

Factors That Affect Credit Score: Critical Insights

Individuals planning to apply for a loan must understand the importance of credit scores. The credit score is a numerical representation of an individual's creditworthiness. It is one of the most accurate metrics that lenders use to assess a loan applicant's repayment capacity and gauge the probability of them defaulting on loan repayment. 

Credit scores range from 300 to 900 and a score in the range of 750 to 900 is considered excellent. Such a credit rating implies a credit user who is not excessively dependent on credit, has their debt situation in control and can be trusted with timely repayment of loan money. 

Those planning to apply for a loan or a credit card must ensure they have a good credit score. Those whose credit rating is below 750 can benefit from understanding the factors that affect credit scores so that they can take measures accordingly. 

Factors that Affect Your Credit Score

  1. Repayment History: A clean repayment history with no instances of missed EMI payments or cases of loan default is crucial to having a good credit score. If you are repaying a loan, you must never miss an EMI due date and if you do miss one, clear the pending payment as quickly as possible to reduce the damage to a bare minimum. Having a loan emergency fund will help you navigate tough financial situations easily and steer clear of loan defaults. 

  2. Credit Utilization Ratio: The way an individual uses their credit cards is important. If you are someone who exhausts their credit cards and does not clear the entire amount due at the end of each month, you will have a high credit utilization ratio. A high credit utilization ratio indicates excessive dependency on credit, which credit information agencies perceive as a bad sign. Thus, one must always use their credit cards smartly and maintain a low credit utilization ratio by paying the entire amount due on their credit cards at the end of each month. 

  3. Credit Mix: A mix of both secured and unsecured loans indicates the ability to handle all kinds of debt. Thus, individuals who have both secured and unsecured loans have a better credit score than individuals who have only one type of loan. 

  4. Age of Credit History: The age of your credit history also affects your credit score. Lenders study for how long have you been using credit to understand how reliable you are. The longer your credit history, the better will be your credit score. It is thus that credit users and borrowers are advised against closing old loan accounts. 

  5. New Credit or Hard Enquiries: Hard enquiries have an important role to play in determining credit scores. In response to loan applications from credit users, lenders approach credit information agencies to enquire about the applicant and their creditworthiness. Credit information agencies register their queries as hard enquiries. Too many hard enquiries portray a borrower or credit user as credit-hungry and therefore, negatively impact their credit score. It is thus that loan applicants are advised against applying for too many loans or credit cards at the same time. 

These are the key factors that affect credit ratings. Having an understanding of these factors allows loan borrowers to take corrective measures from time to time and ensure a healthy credit score and easy access to credit on the most beneficial loan terms and conditions. 

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