Importance of credit score to qualify for a home loan

A good credit rating plays an essential role in the life of a home buyer when applying for a home loan from a financial institution. This is the most important criterion on the basis of which financial institutions assess the eligibility of the client and decide on the interest rate offered for the loan.

Having a good credit rating leads to faster approval for home loans. On the contrary, having a low score below a threshold increases the chances of rejection of the loan application by the lender. The first thing any financial institution does is to check the credit rating and credit history of the customer to make a decision.

Although no standard credit score is sought by financial institutions, each has a minimum credit score that serves as an indicator to accept or reject applications. A customer’s credit score is a three digit numerical summary of the complete credit history which normally ranges between 300 and 900. It is prepared based on a customer’s credit history and includes all loans secured and/or unsecured and any other indebtedness that one may have or have had for any purpose.

It is very important for a financial institution to look at credit scores because it helps the lender to infer past and current credit behavior of the customer and to predict their future behavior on their loan. The credit report provides a summary of all loans taken out by the customer and the servicing of those loans – an important perspective for the lender’s credit and risk team. Customers should understand that credit cards are also a type of unsecured loan and any delay or default in payment will be reflected in the credit score.

Sources of income are one of the most effective ways to understand the ability to repay the loan. If the client does not receive a certain monthly income, he may not be eligible for a home loan. A person’s income and credit rating allow lenders to be better informed in deciding whether one can actually repay the loan on time. Credit scores also help lenders know if the customer has other loans outstanding with other financial institutions. Borrowers who have many existing loans are considered rather risky by lenders because a new loan means additional financial responsibility for the customer. Through the credit score, the lender makes the calculations if one can repay a high-value home loan while servicing existing loans.

A Credit Information Company (CIC) that provides credit scoring, collects customer data from its member banks & financial institutions and analyzes the same for the credit conduct of individuals and business entities. CICs use the data to prepare a credit score and information report. Lending institutions refer to this report when evaluating any loan application.

Regulated by RBI, there are 4 credit bureaus in India –
1. Transunion CIBIL
2. Equifax
3. Experiane
4. CRIF Highmark

Although different offices have slightly different scoring methods, a score of 300-500 is considered “Poor”, 550-650 is “Average”, 650-750 is “Good”, and 750-900 is considered “Excellent”. .

Each financial institution has its own set methods for evaluating the mortgage application. Although the majority of them look at the CIBIL score, certain types of loans are not covered by CIBIL and other credit reports must be consulted to evaluate these loans. Customer credit history incorporates multiple sources such as lenders, credit card companies, and government agencies. The client can negotiate better loan terms such as lower interest rates, concession on processing fees, loan term, prepayment penalty, etc. Apart from the credit history, lenders usually suggest the client to submit a list of documents for home loan purposes which includes his payslips and bank statements, tax returns while they usually apply for the credit score from one or more CICs.

The best way to improve and maintain a good credit rating is to pay off debts on time without default. The customer should ensure that he does not miss paying EMI payments and avoid paying them late as this may impact credit history. You should also not use the entire credit limit unnecessarily. If customers have prepaid loans in the past, their score tends to improve. On the other hand, the multiple short-term loans taken will have a negative impact on the store. Multiple loan applications from various financial institutions also lower the credit rating.

Also, the goal should not just be to pay the minimum amount on credit card bills, but to repay the full amount before the due date. Normally, the credit score required for sanctioning a home loan is 750 and above and most lenders, especially banks, are particular enough to sanction loans to borrowers who can reach this minimum score. On the other hand, housing finance companies are quite flexible in terms of credit scores and can sanction loans to borrowers whose credit score is between 600 and 750. Although one can get the sanction, the interest rate would be significantly higher. Hence, credit history indeed plays a crucial role in sanctioning home loans for home buyers in India.



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The opinions expressed above are those of the author.



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