What Is Credit Score And Why Is It So Important

Credit card users are growing tremendously every year and despite the spike in the number of users, 2 in 10 Indians do not know what a credit score is and how it impacts them.

But you do not have to worry, you’ll learn everything you need to know about credit scores and it’s importance in this blog. Let’s start by defining what a credit score is

A credit score is one of the most important measures of your financial health. It is the first thing that lenders check when you apply for a loan or a credit card.

It is a three-digit numeric summary of your entire credit history which ranges between 300-900. The higher the score, the better you look to potential lenders.

How Credit Score Is Calculated?

The 5 factors that determine your credit score include:

Your payment history

It is one of the most crucial factors that affect your credit score. Payment history contains details like the number of loans taken, the time taken to repay them, and timelines for paying interest. If you have been consistent in paying your EMIs bills/loan, then you are considered a responsible borrower and are at a lower risk of default.

Your credit utilization ratio

This refers to the total amount of credit you have used compared to the total credit limit available to you. The lower the credit utilization ratio, the higher the credit score. Ideally, it’s better to utilize only 30% of the available credit limit.

Length of your credit line

In simple words, it is the timeline for which you have been using your credit cards/loans. It shows that you have used credit responsibly over a length of time by repaying your dues on time. The older the credit history, the better, as it helps banks take a decision on whether to offer you credit or not.

Hence, it is advised to keep credit cards with a long history open compared to cards you have recently taken.

Credit mix

As the name suggests, a credit mix shows the types of credit accounts you have such as loans, credit cards, mortgages, etc. It portrays how a person has managed their accounts over time.

It is important to strike a good balance between secured as well as unsecured credit on your credit portfolio.

Any New Credit Enquiries

It depicts the number of loans and credit cards that you have applied/enquired for over a period of time. If there are more rejections than approval, the credit score is affected negatively.

Now that you know what a credit score is and how it’s calculated, let’s dive into why it’s so important.

Importance of credit score

Your credit score is an important indicator for financial institutions to determine your ability to repay loans. A credit score of 650 and above on a scale of 300 -900 is considered healthy.

Here’s why is it important :

Lower interest rates and attractive offers on loans

Banks offer you loans and credit cards at more cordial terms with impressive interest rates. You can also get other benefits such as a discount on the processing fee or eligibility to get a higher loan amount.

Entitled to a pre-approved loan offer

These kinds of loan offers are given by banks to their existing customers who have maintained a good credit history.

Access to the premium credit cards

You are also eligible to get access to the most rewarding credit cards in the market, including those that offer the lowest interest rates, cashback, travel points, shopping points, and other benefits if your credit score is on the higher side.

Speedy loan and credit card approvals

The financial institutions will check your credit score before granting you a loan. If you have a decent score, you will be considered a low-risk customer. This, in turn, improves your chances to get a loan or credit card.

Approval for a higher credit limit on loans and credit cards

With a good credit score, you can get entitled to a higher credit limit on your credit card and loan requests. Banks will likely lend you more money because of your proven history of creditworthiness.