Why do Lenders Check Your CIBIL Score before Approving Your Loan?

Taking a loan is the most preferred option when you need extra liquidity. However, taking a loan and more so getting a loan approved can be a cumbersome process sometimes. Why so? Because the lender wants to make sure they are loaning their money to someone who can repay the loan without any hassle. It is indeed very important for a lender to check the credit score of the borrower when approving the loan.

The credit score is a reflection of the borrower’s previous credit history and is a good measure of their credibility. It is dependent on a lot of factors assessed by banks, financial institutions, and credit bureaus. The most popularly used credit score is the CIBIL™ score. But what is a CIBIL™ score?

What is the CIBIL™score?

CIBIL™ score is a three-digit numerical number that depicts an individual’s creditworthiness, financial behavior, and repayment records. Borrowers with a CIBIL™ score of 750 or above are more likely disciplined in their financial behavior and repayment history. They are less likely to default on a loan.

Maintaining a healthy CIBIL™ score also helps borrowers in quick and hassle-free approval of their loans. CIBIL™ or the Credit Information Bureau (India) Limited is one the most trusted credit information companies licensed by the Reserve Bank of India.

It’s regularly used as a benchmark by lenders to assess the credibility of the borrower and take a call on the disbursement of the loan. 

Why do Lenders check your CIBIL™score?

A lender wants to make sure their risk is limited and hence they check the following parameters –

1. Determines the loan amount – Higher CIBIL™  score helps get loans approved faster and seamlessly. It also helps the lender assess the loan amount. The higher the CIBIL™ score, the more likely that the lender is comfortable giving a bigger amount of loan.
2. Reflects Credit history – It reflects the capability of the borrower to repay the loan on time. A big component in deciding the CIBIL score is the previous repayment history. It’s the comfort factor that puts the lender at ease.
3. Decide the interest rate – The higher your credit score, the better (lower) interest rate you might get. This is because the higher the risk, the higher the return is. The lender will be comfortable with a lower interest rate if the chances of default or non-payment are low as they at least feel secure about repayments.
4. Approval of loan application – A higher credit score acts like a catalyst in the process of approval of the loan. Borrowers with a credit score of 750 and above are eligible for a personal loan.
5. Personal loans are hassle-free and are approved faster. They can also be used for any purpose hence they are desirable by the borrower. However, a lower CIBIL™ score will hamper your chances of getting a personal loan.
6. Determine the loan amount – The amount of the loan principal is also dependent on the credibility of the borrower. Lenders often check the CIBIL™ score to determine the loan amount they are comfortable with.
7. Specialized offers – Specialized offers like pre-approved loans, credit card offers, etc. can be extended by the lenders to borrowers with a higher CIBIL™ score.

So how is the CIBIL™ score calculated? Banks and financial institutions send personal as well as credit-related information to credit bureaus for evaluation. Let’s take a look at what could impact your credit score –

Factors affecting CIBIL™ score calculation

1. Payment History – Default on payments or non-payment will adversely impact the credit score. Try and pay your bills/EMI’s/loans on time.
2. Credit mix – Having a mix of secured and unsecured loans will look positive on your account. Being able to secure different types of loans is a measure of a positive credit history.
3. Multiple inquiries – Too many inquiries indicate your loan burden may go up in the future and will hurt your credit score.
4. High credit utilization – Higher utilization indicates a higher debt burden in the future.

Also Read: What is the Best Way to Finance Home Improvements?

Let’s take a look at the CIBIL™ score range and what they mean –

How can you improve your CIBIL™score?

1. Repay your credit card dues on time – Paying your credit card dues regularly before the due date sets good credibility for you. It shows that you have enough liquidity to settle your bills every month. It also reflects positively on your financial behavior and hence improves your credibility.
2. Pay your EMIs on time – We all opt for EMIs for easy payment and to reduce the burden of paying a lump sum amount. Pay your EMIs on time as banks and financial institutions certainly pass it on to the credit bureau as a positive aspect of your credit score.
3. Do not apply for too many loans – Too many loans indicate future debt on your account. It might give the perception that you are always applying for loans and might not have the capacity to pay the principal and interest back on time.
4. Increase your credit limits – Increasing your credit limit leads to a lower credit utilization ratio which in turn reflects positively on your credit score. On the other hand, withdrawing too much from your credit limit and not paying on time can adversely affect your CIBIL™ score.
5. Keep old debt on your report – It is advisable to keep good old debt on your report as it helps establish good credibility on the report. A well-paid debt is a sign of your credibility and your ability to pay dues on time. 
6. Keep a check on your credit report – One should always keep a check on the credit report to make sure it has a healthy score. Also, keep a check on inconsistencies and mistakes that can adversely affect your report.