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Credit score myths that can harm financial health

Credit score concept. businessman pulling scale changing credit information from poor to good, excellent. Payment history data meter. Vector illustration in flat style.  

A strong credit score is key to your financial health as it can provide you with access to the best offers on loans and credit cards. However, building or maintaining a high credit score through responsible behaviour is a continuous process. One needs to be aware of ‘good and desirable’ actions that impact your credit score positively and stay away from the bad ones. Here are some common myths around credit scores:

Myth 1

Checking my credit score frequently will lower the score

When you apply for any kind of loan or a credit card, the lender fetches your credit report from a credit bureau to gauge your creditworthiness. This is commonly known as a ‘hard enquiry.’ Too many hard enquiries from lenders within a short span can reduce your score as it indicates credit hungriness.

However, when you check your credit score on your own, it is known as a ‘soft enquiry.’ Soft enquiries have no impact on your score. In fact, it is advised to check your credit report every 2 or 3 months, to track your credit score and take action to build it. Regularly checking your credit score can also help detect errors that may emerge in your credit report.

Myth 2

My score will improve with increase in income

Your credit score is determined by your behaviour with credit and is not related to income. Missing EMI repayments, high credit-utilisation ratio, frequent and multiple applications for loans and cards can severely damage your credit score, irrespective of your income. However, higher income does impact your overall loan eligibility, as it reflects higher repayment capacity. Despite a strong credit score, those with lower income may not be eligible for select credit cards or high-ticket loans.

Myth 3

Settling a credit account helps in improving credit score

Settling your loan or credit card account is different from closing your loan or card account. Closure of an account means deactivating a loan or credit card after full repayment of outstanding dues as per schedule, with no outstanding amount remaining.

When one is unable to pay the outstanding amount for some time, the lender may choose to extend the option to settle the account through a one-time payment option, where a certain amount of the debt may also be written off.

When you decide to settle your credit account, the credit bureaus are informed; this starts reflecting in your credit report as a ‘settled’ account. You need to know this ‘settled’ account remains in your credit report for a long time, and all your future loan or credit card applications are likely to be adversely impacted.

Since you missed repaying as per the schedule and settled the account, lenders will consider you as a ‘risky’ borrower in future and may be hesitant to approve your loan or credit card applications.

Myth 4

Banks will lend to me because I have never taken any credit in the past

Many people assume that having no loans or credit cards can makes it easy for them to avail credit as they do not have any existing credit obligations to fulfil. This is not correct. Having active credit accounts and displaying good repayment behaviour against them is a positive sign for lenders.

If you have fared well with your credit obligations in the past and continue to do so, your risk of defaulting in future is relatively less and you can get credit approval with better offers and at preferential rates. On the other hand, indiscipline in handling credit in the past makes you a risky customer and bureaus give you a low credit score making it difficult to avail loans and cards.

But, if you have never taken any loan or credit card in your life, you do not have any credit history. Having no credit history leaves providers with no data to analyse the risk of credit provided to new to credit applicants. Many large lenders refrain from approving credit applications of such applicants. If you are new to credit, you also miss out on pre-approved loans and card offers from various lenders, apart from several benefits such as preferential rates.

Myth 5

Closing old credit cards is good for my credit score

We often tend to close old credit cards to save annual fees or just because we don’t use them any more. However, this may not be advisable if you do not have a long credit history, haven’t availed many credit products, or have a low credit score.

Before closing an old credit card, do consider a couple of aspects.

First, it’s always good to have a good mix of credit products in your portfolio because it shows your ability to manage different types of credit. So, before closing an old credit card, do take a close look at the total account in your credit report. If you have not taken too many credit products, you may want to continue with the card for a stronger product mix.

Second, lenders look at the length of your credit history when you apply for any kind of loan or a credit card and, having a credit card here with a long history and good repayment record may help. So, if your credit history with other credit products is not very long, continuing with an older credit card is recommended.

Also, remember that when you close a credit card, your credit limit would reduce, which may lead to a higher credit utilisation ratio that would negatively impact your score.

(The writer is Chief Product Officer, Paisabazaar.com)


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Printable version | Nov 27, 2021 7:01:31 PM | https://www.thehindu.com/business/Industry/credit-score-myths-that-can-harm-financial-health/article37030712.ece

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