Importance of Credit Rating & How it Works?

Credit rating is defined as a system to assess the creditworthiness of a borrower, company, or individual, which will decide if the borrower will be able to make timely repayment of debt. Any bank or financial institution will always want the credit rating report first and then move on to the loan application process.

Importance of Credit Rating to Lenders:

  • Safety assurance: Banks and lending institutions use the credit rating system to determine if the applicant can repay on time and a higher score gives them more assurance. 
  • Secure investment: It is easy for banks to sanction the loan for companies or individuals with a higher credit rating as they see little or no risk factor attached to this investment decision and a decent return on investment as well.

Importance of Credit Rating to Borrowers:

  • A higher credit rating makes it easier for the applicant to get a loan sanctioned as they are seen as low or no-risk customers by the bank.
  • Higher the credit rating, the lesser the rate of interest that is levied by the banks or lending institutions. If you have a good CIBIL score and credit rating, then it would be fairly easy for you to avail a loan at competitive interest rates.

The Credit Rating Information Services of India (CRISIL) Limited, Credit Rating Information Services of India (CRISIL) Limited, and Credit Analysis and Research Limited (CARE), are some of the credit rating agencies in India.

How do credit ratings work in India?

Before you understand how credit score affects your loan application, it is important to understand how the credit rating system works:

  • There are different agencies in India, and each of them has a credit evaluation algorithm of its own. 
  • Major factors that affect the credit rating algorithm include timely repayment of past dues, supplied, current cash flow, working capital, business’s net worth, etc.
  • These credit agencies collect monthly credit information from other financial institutions and partner banks in the country.
  • Next, these agencies do their due diligence and prepare reports based on the credit rating affecting factors once the request is raised.
  • Every individual or company is then graded based on this report and a credit rating is allotted to them accordingly.

Public and private banks, lending institutions, and even investors use this rating to understand the company’s financial positioning and net worth better. Lending institutions determine the loan eligibility of a company or an individual based on their credit rating itself. Higher your ratings, the better the chances of getting a loan at lower interest rates.

In conclusion:

Your credit rating determines if you are a viable loan candidate for banks and Financial institutions alike. If you need a loan at any time and want the process to be quick and hassle-free, it is advisable to keep track of your credit score and rating routinely. It is also possible to increase your score by paying dues on time, staying cash flow positive, ensuring there is no outstanding debt, etc.