In line with the RBI guidelines, a number of banks have already linked their loans to customers' risk profile, while many others are in the process of doing so.
If you have been careless about your credit profile and credit score, then it is high time to mend your ways, particularly if you are planning to take a home loan or a car loan in the future. For, from now on, your credit score will not only determine your eligibility for a loan, but also the interest rates applicable on your loan — whether it is a home loan or a vehicle loan — which may impact you financially in the long term.
A number of banks have already linked their loans to customers’ risk profile, while many others are in the process of doing so. Bank of Baroda, for instance, has rolled out differential rates based on customers’ risk profile. According to its website, its retail loans linked with Baroda Repo Linked Lending Rate (BRLLR) is 8.10% as on October 5, 2019, and its home loan rates are available in the range of BRLLR to BRLLR+1% (ie. 9.10%) as per the risk rating of loan applicants.
Similarly, effective October 1, 2019, the State Bank of India will be giving its floating interest home loans up to Rs 30 lakh at 8.20% interest rate, above Rs 30 lakh to Rs 75 lakh at 8.45% interest rate, and above Rs 75 lakh at 8.55% interest rate. However, the bank will be adding to the Card Rate a premium of 10 bps for customers falling under 4 to 6 Risk Grade. This means customers under this Risk Grade will have to pay 10 bps more than the existing home loan interest rates.
Some other banks which have also linked some of their loans to customers’ risk profile (Cibil score) include Canara Bank (home loan, vehicle loan), Bank of India (home loan, vehicle loan), Union Bank of India (home loan), UCO Bank (home loan), Syndicate Bank (home loan, vehicle loan) and IDBI Bank (vehicle loan). Usually people having a credit score of 750 plus out of 900 are considered having a better credit profile by banks.
Industry experts say that the banks’ decision to link loan rates to customers’ credit scores is in line with the RBI guidelines. The linking sends out a clear message to borrowers that there are incentives for timely payments and disincentives for late payments. Your interest rate will fall if your credit profile improves, and rise if your profile worsens due to reasons such as delayed payments or loan settlements.
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“This will create a sense of urgency among borrowers to ensure their EMIs and credit card dues are paid on time. Borrowers will need to ensure that all their concurrent dues are being paid on time because, for example, if you pay your home loan EMI on time but are late with your credit card payment, your credit score could still fall, leading to a rise in your home loan interest rate in line with your bank’s credit framework. Borrowers now also have a clear incentive to keep an eye on their credit score. Checking it regularly – at least once a quarter if they have outstanding loans – would become the norm,” says Adhil Shetty, CEO, BankBazaar.com.
Ratan Chaudhary, Head of Home Loans, Paisabazaar.com, says, “Some of the banks adopted risk-based pricing of loans during the MCLR regime wherein they levied higher risk premium on borrowers with low credit score. Hence, factoring credit score while setting credit risk premium in the external benchmark regime is only a continuation of earlier practice. It rewards loan applicants with high credit scores and greater credit discipline by offering lower interest rate vis-a-vis those with lower credit score.”
Thus, borrowers with low credit score can consider approaching NBFCs, given that they follow less stringent loan eligibility parameters and, therefore, impart greater flexibility while evaluating loan applications.
Although the RBI has given a free hand to banks when it comes to setting spread, credit risk premium levied at the time of loan application can be changed only if the borrower’s credit assessment undergoes substantial change during the loan tenure. Hence, “it is imperative for borrowers to not only build a strong credit score, but also follow healthy financial discipline to maintain it. Keeping your credit utilization ratio within 30%, timely repayment of credit card bills and loan EMIs, containing FOIR within 40-50%, periodically reviewing your credit report and monitoring co-signed/guaranteed loan accounts would assist in building as well as maintaining a strong credit score,” says Chaudhary.