Heightened competition among lenders and advancement of technology have made borrowing a breezy affair. Risk management tools have evolved with technology and now they enable lenders to do better risk assessment of the borrower before lending.
"Loans are now available instantly thanks to digitisation and the ability to underwrite credit for a customer in real time. For consumers, this means easy access to credit, especially for young first-time borrowers. Our data shows that millennials contributed more than 50 per cent to such loans by volumes, with their contribution increasing by 7 per cent between 2015 and 2019," says Ashish Singhal, Managing Director, Experian Credit Information Company of India Pvt. Ltd.
Young millennials by virtue of being more tech friendly than older generation have become the biggest category of the digital borrowers. "We have also observed that even though more millennials are borrowing, there is no significant increase in average borrowing per customer, indicating that more millennials are entering the formal credit system. Very young borrowers (age group of 22-25 years) have shown a 15 per cent increase in contribution over the same period with about 55 per cent being first-time borrowers," says Singhal. However, easy availability of credit also brings adverse consequences if not handled properly.
Why credit report is important?
Whenever borrowers apply for new loan or line of credit, the lenders check their credit history. Credit bureaus are the custodians of credit history of all borrowers. As per RBI guidelines, all institutional lenders have to share data for each repayment made by all their borrowers with these credit bureaus. Credit bureaus prepare a report that is called credit report, which includes details of past repayments made by borrowers.
"The credit report displays vital information about an individual's credit accounts, repayment behaviour, number of credit inquiries, total outstanding credit balance, incorrect credit entries/inquiries, if any, and the average Credit Utilisation Ratio, among others. The information contained in one's credit report is extremely essential as lenders base their lending decisions on it," says Aditya Kumar, Founder & CEO Qbera.com.
Credit bureaus assign a credit score to each borrower on the basis of this report and various other factors. "Your credit report is a summary of all your financial borrowings and the score is calculated after considering your level of debt and repayment track record," says Singhal.
Higher is your credit score better becomes your chances of getting the loan. A higher score not only gives you quick access to loan but also lower interest rates than others. This score helps lenders in quick decision-making and enable them to process loan much faster and often instantaneously.
The cost of repayment default
Borrowing part may come easy, however it's the repayment part that is often long and testing. If you flounder on repayment it may impact your credit history. Borrowing beyond means is a threat, which often looms large when people have easy access to credit. If they do, it leads them to a debt trap. Credit bureaus have developed a mechanism by which they can predict the propensity of future default by analysing your current and past borrowing behaviour.
"Credit score is impacted by a multitude of factors such as customer product holding, repayment discipline, credit utilisation, size of borrowing and type of loan etc," says Singhal. When you frequently enquire about new loans with many lenders, it also affects your credit score negatively.
"Low awareness of your credit score and factors that influence it can sometimes limit one's ability to borrow. Sometimes even a small lag in repayment or default of small amount or extended reporting of a closed loan facility can impact your score," says Singhal. Therefore, when it comes to credit score, repayments of course matter, but you should also be alert about credit enquiries.
Who is defaulting more?
When you do not calculate or care about the consequence of your action, the chances of making mistakes are higher. "The age group between 25-35 have the highest propensity for defaults," says Kumar. Even among this lot, first-time users of the credit are most vulnerable when it comes to making borrowing and repayment-related mistakes.
"Our study shows that delinquency for this segment (age group of 22-25 years) is slightly higher than the rest of millennials. Since the total exposure and ticket size are very low, it does not pose any risk to the overall industry. However, defaults by these customers could impact their ability to borrow in the future," says Singhal. So, if you are a young first-time borrower you must be cautious before you borrow.
Which default is more damaging?
Loans are basically of two types - one is secured loan in which the lender takes some collateral, which he can liquidate in case of non-payments and second is unsecured loan, which is given without any such collateral. Though all defaults hamper your credit report adversely, the extent of the impact may differ.
"Secured loan defaults affect an individual's credit health way more than unsecured loan defaults," says Kumar. So, if you have car loan, home loan or loan against any financial security, you must be extremely cautious in borrowing so that you do not borrow beyond your means.
"We observe that in an event of stress, a consumer would default on an unsecured product first - while protecting one's secured asset. Hence, a consumer who is defaulting on secured assets would normally be in deeper stress, so the impact on score will be corresponding. Also, secured loan defaults tend to be of a higher amount, further amplifying the impact," says Singhal. Therefore, if you make any default on your home or auto loan, it may severely impact your credit score.
How to make sure you have clean credit history
Being aware of the consequences of irresponsible borrowing is a must for keeping your credit history clean. The first thing you should do is to take only than much amount of loan, which you are confident about repaying. Once you have taken loans, you should be sincere about repayments.
"There is a need for discipline in their repayment habits. Some of these defaults may just be due to lack of disciplined payments. Hence, it is best to give standing instruction for the repayment of loans," says Singhal.
Keeping a regular track of your credit report is also a good way of ensuring that you do not have any negative surprises later on. "Regularly checking your report can help prevent potential damage occurring as a result of incorrect credit entries. It also helps you understand how you can boost your credit health and improve your chances of approval for loans or credit cards in the future," says Kumar.
In case of any deviation, it will help you take timely corrective action so that the damage is limited. "Your credit report also provides a summary of the institutions that have accessed your information. It is a way to check any unauthorised access to your report. As a consumer, if you miss a payment, there are ways to build up and improve your score by working on key factors such as credit utilisation that impacts your score," says Singhal.
Regular check of your credit report ensures that there is accuracy in it. "Consumers should stay on top of the report and ensure all information is reported correctly by their financial institutions, which could adversely affect their score. Being aware of your score enables you to access credit and will help you avoid surprises when you apply for a credit product," says Singhal.