Modules for Beginners
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What is a credit rating?
Have you ever wondered why some entities can get loans more easily than others? Or why the same loan carries a lower interest rate for one person and a higher interest rate for another? The answer to this dilemma lies in the credit rating of the borrower. Wondering what that is? Let’s take a closer look at the definition of credit rating.
What is a credit rating?
A credit rating is a 3-digit number that reflects your credit worthiness. In other words, it represents how likely you are to repay your loans promptly, as per the repayment schedule. Typically, in India, the credit rating ranges from 300 to 900. And the higher your credit rating is, the better your chances of getting a loan at affordable interest rates.
This sums up the meaning of credit rating. While you may not have heard the term credit rating often, you may undoubtedly have heard of its more often-used counterpart - the credit score. Are they the same? Or are they different?
Credit rating vs. credit score
The term credit rating is generally used in the context of financial instruments and businesses. For instance, the credit rating of a company tells lenders how credit worthy the business is. And the credit ratings of securities let investors know the credit worthiness of the instruments. Bonds have credit ratings too, and the higher the rating, the stabler the bond is considered to be.
A credit score, on the other hand, is used in the context of individual borrowers. So, a person would have a credit score, while a business would have a credit rating. This technicality aside, a credit score and a credit rating essentially convey the same kind of information, which is why they are often used interchangeably today.
Who determines your credit rating?
Your credit rating is calculated by credit rating agencies authorised by the Securities and Exchange Board of India. The following credit rating agencies determine the credit worthiness of businesses.
- Credit Rating Information Services of India Limited (CRISIL)
- Credit Analysis and Research (CARE) Limited
- Investment Information and Credit Rating Agency of India (ICRA) Limited
- Acuite Ratings & Research (erstwhile Small Medium Enterprises Rating Agency Of India aka SMERA)
- Brickwork Ratings India Private Limited
- Infometrics Valuation and Rating Private Limited
- India Ratings and Research Private Limited
Aside from these credit rating agencies, there are also credit information bureaus that assign credit scores to individuals. Here is a list of the top credit information bureaus in India.
- TransUnion Credit Information Bureau India Limited or CIBIL
Of these, you may have undoubtedly heard of CIBIL, whose name is an integral part of the CIBIL score that lenders look at before approving your loan request. As mentioned earlier in this chapter, the CIBIL score is a 3-digit number that ranges from 300 to 900. But what information do these credit rating agencies use to arrive at your credit score, in the first place? Let’s take a look at them.
Factors that influence your credit rating
You’ll recall from the meaning of credit rating that it reflects how credit worthy you are. So, the factors that are used to calculating this score all revolve around your credit history and your credit usage. More specifically, these are factors that credit rating agencies use to compute your credit rating.
Your repayment history:
Your credit score depends on how promptly you have repaid your debts in the past. If you have left credit card bills unpaid for a while, or if you’ve been lazy with your loan EMI payments, your credit rating may take a hit.
Your credit utilisation:
Credit utilisation is the percentage of the total credit available to you that you’re using. As a general rule of thumb, it is always ideal to have a low credit utilisation ratio, because it indicates that you are not entirely relying on credit to meet your needs.
The duration of your credit history:
The longer your credit history, the more information credit rating agencies have to work with. So, a longer credit history that is generally positive overall can boost your credit score. And if you’ve never availed a loan or used a credit card before, your credit history may be non-existent.
Your credit mix:
A healthy credit mix of long-term and short-term credit and secured and unsecured debts also impacts your credit rating in a good way. So, it is never a good idea to rely solely on one kind of credit.
This should give you a good idea of the meaning of credit rating, and of why it is important in various aspects of your life. It is particularly crucial when you wish to borrow money. And speaking of borrowing money, did you know there are different types of loans available in India? Get to know some of the most common types of loans in the next chapter.
A quick recap
- A credit rating is a 3-digit number that reflects your credit worthiness.
- The term credit rating is generally used in the context of financial instruments and businesses.
- A credit score, on the other hand, is used in the context of individual borrowers.
- This technicality aside, a credit score and a credit rating essentially convey the same kind of information, which is why they are often used interchangeably today.
- Your credit rating is calculated by credit rating agencies authorised by the Securities and Exchange Board of India.
- Factors like your repayment history, your credit utilisation and the length of credit history affect your credit rating.
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