Why Should You Take a Loan to Build Your Credit Score?

Updated on: 22 Jan 2024 // 4 min read // Personal Loans
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So you have never taken a loan in your life,and you consider yourself to be a financially stable person. You approach your bank to Apply for an Unsecured Personal Loan to cater to a small emergency. To your surprise, the bank declines the loan because you do not have a credit score. Unfortunately, the banking system does not work on logic. It does on the strength of documents you present before them. Hence, you need to have a credit score to get a loan.

Now, you will ask, how will I build up a credit score when the bank declines loans because of lack of a credit score? Do you feel you are in a Catch-22 situation? Yes, you are, but there are simple solutions to the problems you face. You can build up a credit score and maintain it as well. We shall see how you can do so. Before that, you should be aware of how the credit score methodology works.

The Credit Score Conundrum

Banks rely on credit bureaus (such as CIBIL, Experian, and others) for their credit score information. The credit bureaus follow a complicated procedure to compute your credit score. A lot of factors go into the determining of your credit score. They are as follows:

Your repayment history:

The bureaus look at how you repay your loans. Delays in repayment or defaults can lower your credit score.

Your outstanding loan balances:

Borrowing over and above your means is a disastrous proposition. The credit bureaus look at your loan balances to determine the extent of your borrowings.

The credit utilisation ratio:

The bureaus concentrate on how you use your Credit Cards. The credit utilisation ratio is the best tool in their hands to understand your credit behaviour. The credit utilisation ratio is the proportion of the Credit Card outstanding amount to the Credit Card limit. The ideal ratio is around 25% to 30%.

The balance between your secured and unsecured loans:

It is advisable to have a healthy mix of secured (car loans, Home Loans, and so forth) and unsecured loans (Credit Cards, Personal Loans, and others). The banks and credit bureaus prefer to understand how you treat the unsecured loan portfolio.

Your credit history:

The longer the credit history, the better is your credit rating.

The credit enquiries:

Every credit enquiry can set back your credit score by a sizeable number of points. Refrain from making frivolous credit enquiries. The credit score is a three-digit numeric score between 300 and 900. A score of 900 is almost impossible to attain, but any score over 750 is an excellent one and below 600 is a bad one. Now, that we have cleared the concept of the credit score, let us see how to build one so that you can avail various kinds of loans from banks and NBFCs (Non-Banking Financial Companies).

The EMI Card:

Specific NBFCs have the EMI (Equated Monthly Instalment) card options that allow you to purchase consumer durables on instalments. Such instruments are great for building up a credit profile. You can obtain the EMI card to buy your television or mobile phone and repay the same in instalments. Usually, such EMIs do not carry any interest component. It is advisable to use this option even if you have the money to make an outright purchase.

Secured Credit Card:

Since you have never felt the need to approach a bank for a loan, you have a lot of money in your account. Approach your bank for a secured Credit Card against your fixed deposit receipts. Banks readily approve such facilities as they have the collateral available in the form of a loan against your fixed deposits with them.

Credit Card Against Your Salary Account:

The bank handling your salary accounts provides you with a Credit Card. Use this Credit Card to pay your utility bills online. You can also use this card to purchase your monthly essential items from the departmental stores. It is an excellent way of building up your credit record.

Loan Against Your Life Insurance Policies:

Your Life Insurance policies can also allow you to borrow small sums and build up a decent credit score. Banks do not check your credit history for approving such facilities.

An Important Point to Remember

We have seen four simple options available to help you build up a credit score. Remember to pay the Credit Card bills and EMIs on time. Do not delay the repayment and ensure to pay the bills in full. Refrain from resorting to paying the minimum amount due on your Credit Cards. The prompt repayment can help you build up an excellent credit score.

Also Read: Want Perfect Vision But Don’t Have the Money for LASIK Eye Surgery?