What portion of your salary should you spend on loan EMIs?

Credit score is a numerical representation of one’s credit worthiness. With risk-based pricing and assessment adopted by several lenders, credit score would soon be used for evaluating ones profile for services beyond loan and credit card application.

Let’s understand how credit score impacts your financial life:

Eligibility and interest cost of loan

Since loan applicants with higher credit score are more financially disciplined than those with lower credit score, they have higher chances of getting their loan application approved at comparatively lower interest rate. Several lenders also follow risk-based pricing while setting the loan interest rate. On the contrary, lenders try to compensate for higher credit risk involved in lending to those with lower credit score by levying higher interest rate. Hence, not having a good credit score can lead to an increase in the interest cost of loan.

Credit card eligibility

Just as in case of loans, card issuers also take credit score into consideration while evaluating credit card applications. In fact, some card issuers refrain from processing applications of those who do not have a credit history. Hence, having a good credit score allow individuals to avail instant credit access and various benefits offered by credit cards.

Eligibility for loan balance transfer

Lenders try to attract existing borrowers of other lenders by offering them an option to transfer their existing loan at lower interest rate. Under this option, the new lender takes over the loan by paying off the outstanding loan amount to the existing lender. Some lenders also offer longer repayment tenure or top-ups to balance transfer applicants.

However, as in the case of any fresh loan application, lenders factor in the borrower’s credit score and credit profile while evaluating balance transfer request. Moreover, they may also factor in the borrower’s credit score for setting the interest rate of transferred loan. Those having lower credit score have lower chance of availing balance transfer option.

Access to pre-approved loans and credit card offers

Many lenders and online financial marketplaces offer pre-approved loans and credit cards to consumers based on credit score and credit history. Pre-approved loans usually come with better product features, lower interest cost and shorter processing time. Having access to such pre-approved loan and credit card offers allows borrowers to get a fair idea of their loan eligibility. This may further help in negotiating with other lenders to get a better loan deal.

Fees and charges of loans

Similar to interest rate, some lenders charge lower or even waive processing fee and other charges for those having a good credit score. Given that applicable processing fee and other charges levied during the loan application phase can constitute a significant amount, especially in case of big ticket loans, those with lower credit score can be deprived of availing this option.

How to build and maintain a good credit score?

Those having a low credit score can improve it by adopting healthy credit habits like restricting their credit utilization ratio within 30%, repaying credit card bills and EMIs by the due date, reviewing credit report at periodic intervals, maintaining a healthy credit mix, monitoring guaranteed/co-signed loans and avoiding direct loan and credit card applications to lenders within a short span of time.

New to credit consumers, i.e. those who never availed a loan or credit card in the past, can build their credit score by applying for credit card(s) and ensure disciplined usage and timely repayment. Those who fail to avail regular credit card owing to insufficient income, job profile, employers’ profile, unserviceable locations, no or low credit score, etc. can opt for secured credit cards to build their credit score.

(The writer is Chief Product Officer, Paisabazaar.com. Views expressed are personal)