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Check detailed history and evolution of Credit Scores

05-Dec-2018 written by : FSI-Team

Check detailed history and evolution of Credit Scores

The statistical value that gets assigned to an individual by the credit bureaus is mystifying. How did this came into existence and who decided to assign a score that would be deciding factor on a loan application? Every borrower must have had similar questions crossing the mind as and when the request for a credit facility that would have been applied for with a lending institution.

What started off as a ledger management of the grocery buyers just before the start of 20th century in USA by a local store has today turned into a sophisticated business that helps the lending institutions in underwriting process. The list was prepared by the store with details on the buying patterns and payments with an objective on how much credit could be extended to these customers. These were the customers who were known and were living in vicinity. But today, the bureaus run complex algorithms that help the banks to decide the fate of loan application on borrowers who are completely unknown to them.

It was not until 1950s when Bill Fair, an engineer and Ear Issac a mathematician came together to build a credit scoring system. Over the period, they refined the mechanism with the use of technology and came up with the scoring system called FICO. The credit scoring idea got sold to all kinds of lending institutions since every time a loan is extended, the lender would want it to be returned back.

The credit scores are calculated around five major factors that are as follows:

  1. Payment history (has a weightage of 35% in over all scoring) The repayment pattern on credit taken at any point in time in life impacts this factor
  2. Amounts owned (has a weightage of 30% in over all scoring) The sum total of all outstanding against the assigned limit and the loan amount disbursed is the value that gets considered under this factor
  3. Length of credit history (has a weightage of 15% in over all scoring) The number of years a person has been exposed to the formal credit is what gets considered under this
  4. Credit mix (has a weightage of 10% in over all scoring) The variety of borrowing types viz. secured, unsecured and revolving credit gets to impact this factor
  5. New credit (has a weightage of 10% in over all scoring) The new exposure on borrowing and credit that the person has taken is what impacts this factor

While these are only five factors and one may think it to be a simple process, but the scores are an outcome of complex calculations that predict one’s chances of default based on the historic data on credit. Non adherence to any of these factors can lead to a low CIBIL score.

The bureaus arrived in Indian only in 2002 with CIBIL getting established. Today India has four bureaus:

  1. Transunion CIBIL
  2. Equifax
  3. Experian
  4. Crif Highmark

The credit scores keep evolving and are dynamic in nature. Today the credit bureaus keep refining their algorithms based on the new statistical findings. As the database on borrowers grow the learning on the patterns and behavior improves. And this gets incorporated in the score calculations.

The credit scores in India till recent past came at a cost. However, the Reserve Bank of India has made it mandatory for all bureaus to extend it free of cost to every individual every year. So today one can obtain free CIBIL score. The process is quite simple and it would take only a few minutes for one to have access to the report and score.


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