5 common mistakes that lead to a low credit score

Updated: September 11, 2020 6:35 PM

Also, a having a high score at present does not mean that it won't decrease in the future. That’s why you need to check your score regularly.

credit Score, paisa bazaar, unpaid debtSome common mistakes that you should avoid so that you can maintain a high credit score.

In case you are planning to take a loan, here’s an open secret – your credit score will play a key role in determining your eligibility for the loan. What’s more it’s not just your eligibility that is impacted by your score, a high credit score can also help you avail the loan at more favourable terms such as lower interest rates compared to those with a lower score. Thus not paying attention to your score can cost your dearly in the long term.

What is Credit Score?

Credit score is a 3-digit number calculated by credit bureaus using the credit history of an individual. Your credit score can vary between 300 and 900 and a score that is closer to 900 (such as 750 or higher) is preferred by the lenders. The higher your score, the better are your chances of being approved for a new loan at a competitive interest rate.

You should also keep in mind that your income and net worth have no direct impact on your score. Thus, even if you have a high take-home income, you can have a low credit score. Also, a having a high score at present does not mean that it won’t decrease in the future. Checking your score regularly ensures financial well-being in the long run. One such portal wherein you can check your credit score for free is https://creditreport.paisabazaar.com/

The following are some common mistakes that you should avoid so that you can maintain a high credit score:

1. Repeatedly Delaying Payments
Not paying your loan EMIs or credit card dues on time will lead to a lower credit score. While one or two late payments may not impact your score too much, repeatedly missing payments over an extended period of time is bound to impact your credit score negatively.

What to do: Avoid any delay in paying your credit card dues or loan EMIs by either opting for automated bill payments or by providing standing instruction to your bank for debiting your savings account on or before the payment due date.

2. Too much unpaid debt
If you have a habit of accumulating too much of debt, especially in the form of unsecured loans, your credit score may be negatively impacted. A large amount of unpaid debt indicates low repayment capability and a high risk of default. Typically if your total monthly debt repayment (EMIs and credit card dues) is higher than 50% of your net monthly income (NMI), it will lead to a decrease in your credit score as well as your chances of being approved for new loans/credit cards.

What to do: Borrowing money should always be a last resort. Avoid taking too many loans or having too much credit card debt at the same time. This will help you maintain a high credit score.

3. Utilizing too much credit
If you use up your credit limit (i.e. max out your credit card) frequently, it is a bad sign. Doing this month in – month out will reflect poorly on your credit score. The proportion of your credit limit that you use on a regular basis can significantly impact your credit score. Here’s how – If you have a credit card with a limit of Rs. 2 lakh and spend nearly Rs 1.1 lakh each month, your credit utilization ratio (CUR) will be over 50%. This will lead to a decrease in your credit score. Generally, a CUR of below 30% is preferred by lenders as it is considered to be a sign fiscal prudence.

What to do: Maintain your monthly CUR at 30% or less to ensure that your credit score is not adversely impacted. This will increase your chances of being approved for additional credit in the future.

4. Opting for a Settlement
If you are hard-pressed for funds and facing a liquidity crunch, the first thing that usually comes to mind is to either delay the payment of credit card dues or paying just the minimum due amount. In both these cases, your debt will pile up and you may end up falling into a debt trap. At this point, many borrowers opt for a settlement by making a partial payment of the total outstanding dues that includes principal and a portion of the interest accrued to the lender. However, doing this hurts your credit score and decreases your chances of availing any credit in the future.

What to do: Try and find ways such as borrowing from friends and family or a soft loan from your employer to pay off your accrued debt in a timely manner to avoid the high interest burden. Find alternative options to settlement such as credit card debt consolidation through a personal loan to reduce your repayment burden and maintain a decent credit score.

5. Not checking your credit score regularly

It is a good practice to check your credit score and credit report for errors on a regular basis. This is because there may be simple reporting or clerical errors in your report that can impact your credit score adversely. You can get such errors rectified only if you check your credit report and score on a regular basis. Do keep in mind that if your check your own credit report, it is a “soft enquiry” so your score will be unaffected. On the other hand, an error that creeps into your credit report unnoticed can potentially have a severe negative impact on your score.

What to do: You should make a habit of checking your credit score and report on a regular basis so to identify errors. If any are found, they must be rectified at the earliest through the applicable dispute resolution mechanism to minimize the impact on your credit score.

This is an investor education initiative by paisabazaar.com

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