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Understand the significance of Credit Score – its history, types, computation, and importance. Explore the components that make up your creditworthiness, and learn how to improve your credit score for better financial opportunities.

Credit Score signifies the Credit Worthiness of a person. Creditworthiness means how is the person in repayment of his earlier debts whether he is paying their debts timely or any default is made by him. It is a score which ranges from 300-850 and highest score signifies high credibility of client.

History of Credit Score:-

In 1956 2 persons named Bill Fair who was an Engineer and one Earl Isaac who was a Mathematician they decided to automatize the process of checking the creditworthiness of a person because in earlier times a lender who wants to lend money has to make lot of efforts to inquire about borrower sometimes you could not get to know about other loans in the name of borrower. In those time these 2 persons designed an algorithm which is based on some input and when you input those required fields you will get a credit score of borrower. They make a firm called Fair Isaac Corporation which is popularly known as FICO Score today.

Process of Computation of Credit Score:-

Basically there are 3 participants in this process first is bank which is lending institution second one is Credit Agencies like CIBIL which is very popular and thied one is Credit Score Companies. Presently there are 2 credit score companies which are used in india first on is FICO score and second is Vintage Score.

Lets understand the process with the example of CIBIL and FICO score

Credit Score

The process starts with borrower who approaches bank for loan and bank wants to verify his credit history so bank will initiate a request to CIBIL by inputting some data like Name of client, PAN Card Number, Government Identification like Aadhar Card Number now the CIBIL will find out most perfect match from its database accordance with the data inputted by bank whatever case is identified CIBIL will forward internally to FICO for credit score. FICO will run an algorithm and get score and revert back to CIBIL. Now CIBIL will make a report of history of client and incorporate credit score in it and send to bank which is called CIBIL Report these days.

An important question arise that from where Credit Agencies make database. Well whenever a person availed a loan this information is transmitted by banks to Credit Agencies so in this way those agencies accumulate those data and make a database.

Types of Credit Score:-

We can classify it in 2 types based on type of consumers

Consumer and Commercial

Consumer CIBIL means credit score of individuals like Ramesh, Suresh etc. but

Commercial CIBIL is credit score of entities which may be Partnership firm, Companies etc.

Importance of Credit Score:-

Credit score and credit reports are the markers which are used by banks to assess Individuals or Asset as the case may be. Higher  credit score will helps to get grants without much Hassle and even at lower interest rate on the other hand lower score will possess a risk and ultimately lender will increase interest rates and consequentially monthly payment will increase.

Components of Credit Score:-

As per FICO Score credit score comprises of 5 elements as follows-

1. Payment History: 35%

2. Amounts Owed: 30%

3. Length of Credit History: 15%

4. New Credit: 10%

5. Credit Mix: 10%

How To Improve Credit Score:-

There are certain steps which can be taken to improve the score like

1. Pay your debt timely.

2. Avoid taking any extension of credit .

3. Do not overdue your payments unnecessarily.

Last but not least is self control, one who issued a credit card must be cautious regarding what type of card is being used, what will be the rate of interest and if there any late fee etc.

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Disclaimer:-The views expressed in article are for information purpose. It does not constitute any Financial, Professional or any other Advice.

Author Bio

A proud Chartered Accountant recently qualified in November 2022 examinations. I have 3 years of experience as an Article Assistant in a reputed mid-size firm and wide exposure in Taxation, Audit, and Accounting. Aiming to leverage my academic knowledge and experience in Taxation and Accounting. View Full Profile

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