Your credit score has a significant impact on whether your application for a new loan or a credit card gets approved or rejected. This is because your credit score defines your creditworthiness.
It helps banks and financial institutions understand how much credit to offer and at what rate. So, what is a credit score? If you are also looking for an answer, read this blog to the end.
Understanding Credit Score
A credit score is basically a 3-digit number that helps to estimate your credibility for borrowing funds. It shows how well you manage your loans and credit cards and defines your payment capability as well.
- Income: Your earnings help determine your ability to manage and repay credit responsibly.
- Debts you have: Existing loans and outstanding balances impact your overall financial health.
- Payment history: Your track record of timely or missed payments affects your creditworthiness.
- Tenure of your credits: The length of your credit history shows lenders how experienced you are with managing credit.
- Credit Mix: A diverse portfolio of credit types, like loans and credit cards, can positively impact your score.
- Credit Use: The percentage of your available credit that you’re using influences your credit utilization ratio.
- Any rejection in credit application: Previous denials can indicate risk factors that might lower your credit score.
Here are the main reasons why a high credit score is important:
- A good credit score allows you to get a loan at a lower rate of interest.
- You can get approved for credit cards with higher credit limits.
- The chances of getting pre-approved offers increase greatly.
- It offers you an opportunity to negotiate your loan terms.
- You can get unsecured loans easily.
Credit Score Range
Your credit score can range from 300 to 900. These scores are divided into main 4 categories. Each of these categories defines your credit management ability. These are:
- 750-900: An excellent score with the chances of getting high-value loans and credit cards.
- 650-749: A good score that allows you to apply and secure credit facilities easily. The rates will be moderate here.
- 550-649: An average score where the chances of getting secured loans are higher.
- 300-549: A poor score that needs improvement. The rates here will be the highest, and the chances of getting approval from notable banks are low.
A high score suggests that you manage your bills and credit well. On the other hand, a low credit score suggests that there were lapses or delays in your payments. So, having a better credit score is a sign of getting good loans and credit card facilities.
How Is a Credit Score Calculated?
The credit score is calculated based on 5 factors. These are:
1. Payment History (35%)
This is your credit management history. It highlights how you have paid your dues in the past. Timely and regular payments will reflect positively on your credit score. If there are missed or delayed payments or even foreclosures, they will reflect negatively on your score.
2. Credit Utilization (30%)
This measures how much of your available credit you’re using. A lower credit utilization rate is seen as indicative of good credit management and can positively affect your score. It is suggested that your credit utilization ratio should be 30%.
3. Length of Credit History (15%)
It is one of the most important factors to keep in mind. It refers to the total tenure of your existing credit. So, if you have a long-term standing loan or credit card and have ensured that you pay them off on time, your score would be positive.
4. Types of Credit in Use (10%)
There are various types of credit available in the market. There are credit cards, loans, mortgages, and others. Short-term and long-term credit is available then. A good credit mix will suggest that you can manage various credit effectively.
5. New Credit (10%)
Lastly, any new open credit you take will be a part of your credit score. All the applications you put in will be taken for your score analysis. Approved ones will have a positive impact, while rejected ones will have a negative impact.
How to Improve Your Credit Score?
Improving your credit score is quite an easy task. All you need to do is to follow the right steps. So, here are some of the tips that can help you in the journey:
- Ensure you pay off all your bills on time.
- Try to maintain a good credit utilization ratio which is below 30%
- Only apply for a new credit when you actually need it.
- Avoid frequent credit inquiries, as they can impact your score negatively.
- Use your credit card responsibility and convert high payments to EMIs to avoid missing them.
- Include both secured and unsecured credits in your portfolio.
- Do not close your old credit accounts, as they help boost your score.
- Try for debt consolidation and pay off your debts as quickly as possible.
Conclusion
Check your credit score today and take steps to improve it. Ensure that you fall in the top two categories to enjoy maximum benefits. Adopt disciplined financial practices to witness your credit score improve.
