What is Credit Score: Meaning, Calculation and Tips to Improve It

The Role of Credit Scores in Financial Planning

A credit score is a three-digit numerical representation of your creditworthiness, reflecting how well you manage borrowed funds. It helps lenders, including banks and NBFCs, determine your repayment capacity. A good credit score can offer better deals, such as lower interest rates, higher credit limits, larger loan amounts and longer tenures.

Your credit score is calculated by credit bureaus based on your credit history. These bureaus, licensed by the Reserve Bank of India (RBI), evaluate details like credit mix, credit utilisation, repayment history and new credit inquiries. Banks and NBFCs are mandated to share this data with credit bureaus for accurate scoring.

How is Credit Score Calculated?

How is credit score calculated? Credit bureaus use a combination of factors to assign a three-digit score representing your creditworthiness. Here’s how it’s calculated:

• Payment History (35%): Timely repayment of loans and credit card bills plays a significant role. Missed or delayed payments negatively impact your score.
• Credit Utilisation Ratio (30%): The percentage of credit used compared to the total available credit limit. Lower utilisation reflects better financial management.
• Length of Credit History (15%): The age of your oldest credit account impacts your score. A longer credit history demonstrates stability.
• Credit Mix (10%): A favorable credit mix includes secured loans (home and car loans) and unsecured credit (credit cards).
• Hard Inquiries (10%): Frequent credit applications lead to hard inquiries, which can temporarily lower your score.

By understanding how credit scores are calculated, you can make financial decisions that positively impact your score.

How Credit Scores Work?

Credit bureaus calculate credit scores using data provided by financial institutions like banks and NBFCs.

• Role of Credit Bureaus: Agencies like CIBIL, Experian, Equifax and CRIF High Mark analyse your credit history, repayment behavior, credit utilisation and loan accounts to generate your score.
• Financial Institutions’ Role: Lenders report your credit activities, including repayments, defaults and credit limit usage, to credit bureaus regularly.
• Scoring Process: The bureaus compile this information into a credit report and assign a score between 300 and 900, reflecting your creditworthiness.

What is the Difference Between Credit Score and CIBIL Score?

• Credit Score: A general term for the score provided by any credit bureau like CIBIL, Experian, Equifax, or CRIF High Mark.
• CIBIL Score: A credit score specific to TransUnion CIBIL, one of India’s leading credit bureaus.

While the CIBIL score is widely recognised in India, all credit scores serve the same purpose of evaluating creditworthiness.

Importance of Credit Score

Maintaining a high credit score is essential for personal and business finance.

• A credit score of 750 and above ensures easier approval for loans and credit cards.
• Influences interest rates and repayment terms on loans.
• Helps secure higher credit limits and better financial opportunities.
• Facilitates quicker approvals for personal loans, mortgages and business funding.

Factors Affecting Credit Score

1. Payment History: Regular, on-time payments improve your score, while defaults or delays decrease it.
2. Credit Utilisation Ratio: Keep utilisation below 30% of your credit limit for a healthy score.
3. Credit Age: A longer credit history indicates stability and positively impacts your score.
4. Credit Mix: A balanced mix of secured and unsecured credit is ideal.
5. Hard Inquiries: Frequent loan or credit card applications can lower your score temporarily.

How to Check Your Credit Score?

Follow these steps to learn how to check your credit score:

1. Visit official credit bureau websites like CIBIL, Experian, Equifax, or CRIF High Mark.
2. Enter personal details such as PAN, date of birth and email ID.
3. Verify your identity through an OTP or additional details.
4. Access your credit report and score.

Free Platforms: Many bank portals, NBFCs and apps offer free credit score checks, such as CIBIL or Experian.

What is a Good Credit Score?

• Poor (300-550): High-risk; low chances of credit approval.
• Average (550-700): Moderate risk; approval with higher interest rates is possible.
• Good (700-800): Low risk; eligible for favorable terms.
• Excellent (800-900): Very low risk; ensures the best interest rates and credit terms.

Maintaining a high credit score enhances financial flexibility and ensures access to the best financial products.

Tips to Maintain a Good Score

• Pay your dues on time: Paying your credit card bills and EMIs on time is the easiest way to keep a good credit score.
• Pay in full, not minimum due: Paying minimum dues results in the remaining amount being carried forward to the next billing cycle. This incurs interest and could lower your credit score.
• Restrict credit utilisation to 30%: Going over 30% of your max credit limit is considered high credit utilisation. This can adversely affect your credit score. Upgrade to a higher credit limit if your expenses are high.
• Reconsider closing old credit cards: It might save you some hassle, but it could also shorten the period of your credit history. Try to assess the impact before you do.
• Diversify your credit portfolio: A mix of credit types with varied repayment tenures reflects well on your credit report. Different credit types include secured (such as a home loan or auto loan) and unsecured (such as a personal loan or credit card) loans.
• Correct closure of credit lines: Loan and credit card settlements that require you to pay less than the due amount are not considered complete closure. It adversely affects your credit score
• Check your Credit Report: You are entitled to one free credit report every 12 months(calendar year) from each credit bureau. Check for discrepancies and errors and get them rectified.

Tips to Improve Your Credit Score

1. Pay Bills and EMIs on Time
   Timely payments are critical for a positive credit history and better credit scores.
2. Keep Credit Utilisation Below 30%
   Use only a small portion of your credit limit to showcase responsible financial behavior.
3. Avoid Unnecessary Loan Applications
   Frequent hard inquiries can lower your score; apply for credit only when necessary.
4. Review Your Credit Report Regularly
   Check for errors and report discrepancies to ensure accurate credit reporting.
5. Maintain a Mix of Credit Types
   A healthy balance of secured loans (home, car) and unsecured loans (credit cards) boosts your score.

Conclusion

Your credit score is vital to your financial well-being, influencing loan approvals and interest rates. Regularly monitoring and improving your score can unlock better financial opportunities. Take proactive steps to manage your credit and check what is my credit score to stay informed and secure.

Frequently Asked Questions

1. Who is eligible for a credit score?

Anyone with a credit account, such as a loan or credit card, is eligible for a credit score. It reflects your credit behavior and is calculated by credit bureaus.

2. How do you get a credit score?

Your credit score is generated based on your credit history, including repayment behavior, credit utilisation and inquiries. Credit bureaus like CIBIL, Experian and Equifax calculate it.

3. What is the best credit score?

The best credit score typically ranges between 800–900, reflecting excellent creditworthiness. Scores above 750 are generally considered good for securing loans and credit cards with favorable terms.

4. What is a bad credit score?

A bad credit score is typically below 550, indicating high credit risk. It can lead to loan rejections or higher interest rates.

5. What is the maximum credit score?

The maximum credit score is 900, indicating excellent creditworthiness and making you eligible for the best financial products and terms.

6. How to check credit score?

Visit credit bureau websites or bank portals, enter your details and access your credit report. Many platforms allow free credit score checks.

7. Can I improve my credit score quickly?

Improving your score takes time, but paying bills on time, reducing credit utilisation and correcting credit report errors can speed up the process.

8. Does checking my credit score lower it?

No, checking your score through a soft inquiry (self-check) does not affect your score. Only hard inquiries by lenders may impact it.

9. What happens if I have a bad credit score?

A bad credit score can lead to loan rejections, higher interest rates and limited credit opportunities. Work on improving it by maintaining good credit habits.