Elements that Decide Approval of Personal Loan for Self-employed

When a self-employed individual applies for a Personal Loan to a bank or NBFC; the lender considers a few factors before approving the finance. The consideration for loan approval depends on the financial eligibility factors including age of the borrower, the reason for the advance and alike. Well, there is no denying the fact that credit score of the individual is one of the most important factors considered by the banks.

Critical Factors that Define Approval of Personal Loan for a Self-employed:

  • Income Tax Returns:

First of all the bank would consider if you have filed your income tax returns on time or not. Lenders are exceedingly particular when it comes to Income Tax Returns (ITR) for a minimum of last three years of individuals approaching for a PL.

  • Existence of the Business:

The time span of a business assures the lender about the reliability and sustainability. Your business duration actually ensures if you can pay back the loan in time. The stability of the business and your source of income is truly essential.

  • Income and Profits:

If you are able to repay without defaulting is the primary concern of the lender. Your disposable earnings as a self-employed professional would help the lender to assess your capacity to repay the loan.

  • Nature of the Business:

Some businesses could be unstable or rather seasonal. This definitely won’t give adequate assurance to the bank about your repayment ability every month. The kind of business, therefore, does play a vital role when you apply for a personal loan as a self-employed individual.

  • End use of the fund

You need to declare the purpose of availing the loan. The bank judges if it is your actual need or just self-indulgence.

When you approach a bank as a self-employed individual for personal loan they need to ensure if you are worthy of receiving credit or not. This worthiness depends on how good you are with your finances. If you have serviced loans successfully earlier; it confirms that you would be repaying the loan on time without missing payments. The process that banks and other financial institutions follow to know your credit worthiness is through your CIBIL (Credit Information Bureau Limited) score.

  • Your age:

On age the factor, consideration may differ from lender to lender. A self-employed person should be within 25 to 65 years of age.

  • Right Documents:

Never submit fake documents to the bank when you apply for a personal loan.

Now, while all these factors play a noteworthy role, whether a PL would be approved for a self employed, Cibil score (Credit History) turns out to be the crucial one.

So before applying for the loan it is important that you ensure that you have a good score.

What factors lower CIBIL Score?

  • Too many Personal loans
  • Missing loan installments
  • Coming too close to the limit on credit cards
  • Not paying credit cards back on time
  • Not paying credit cards in full
  • Too many rejected applications for loans/credit cards
  • Settling credit cards

However if you have a low CIBIL score, you need to know how to get Personal loan for Low CIBIL score.

While the CIBIL data says 80 per cent of the loans that get sanctioned have a score higher than 750; nevertheless, the CIBIL score is not the only factor which lenders take into consideration while deciding and approving a Personal loan to a self-employed individual. A mainstream bank may ignore a credit card default in the past if you have a regular good income flow.  Your future financial prospects, demographics, education, socio-economic conditions may help you in getting a PL despite your low CIBIL score.

NBFCs (Non-banking financial Institutions) are relatively flexible with credit scores and the cut-offs as compared to banks. If you have a low credit score, you are advised to approach a NBFC instead of a mainstream bank.

You may choose to approach a Peer-to-peer (P2P) lending website. You may get a personal loan regardless of your low credit score.

If the cause for your low score is a failure to pay, it is suggested to clarify the lender why you had failed to pay. In case it was not an intentional default; lenders at times might excuse. If you have a convincing explanation with evidence say, you had a sudden loss in business or there was a medical emergency for which you couldn’t afford to pay back; put across clearly. If found authentic; the lender might consider.

All in all if you make plan thoughtfully you could easily grab the best deal!

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What are the factors which affect your CIBIL score?

It is not every day that you need to fix your mobile or television or AC or any gadget for that matter. If you follow the instruction manual, and if you are lucky to have a non-defective item, your gadgets will have a long life. Where exactly am I going with my talk of machines and gadgets? Well, the same principle applies to one’s credit maintenance. The credit landscape has advertisements on every bend that welcome you to take the ‘right’ turn with a score that is upwards of 700. Anything short of that, and you have to take more uphill roads to reach credit haven. So, let’s see how you can consistently stay on the right side of 700.

CIBIL gives you a score ranging from 300 to 900 based on a round-up of your credit history. If you have never approached banks or similar institutions for credit cards or loans, you do not exist in CIBIL’s database and you will not have any report to show lending institutions. So, while not having a good score is stumbling block when you apply for loans, not having a credit history is also questionable. It is not that much of an issue if you are salaried or have a steady income and you are approaching credit card companies for the first time. But, it does become a point of contention when your search extends to the best home loans in India. If you are going to be applying for it, your credit report from CIBIL will make the journey much easier. Let’s turn to the top factors to maintain a steady score, so you never have to worry about how you are going to get a loan for low CIBIL score.

Pay your dues on time

When you get your credit card bill for the month, do you stick to paying off all the credit that you have drawn the past month or do you let it roll over to the next month either out of forgetfulness or laziness or just because you have more important bills to pay off that month? If you are doing so, you are hurting your CIBIL rating badly. You would need to show greater financial discipline to score more. Banks exist to make money. They would be cautious about giving loans or cards to anyone who has a history of defaulting his/her payments. They wouldn’t want you to be their loss maker. In this context it must be stated that minor defaults – payments missed under 90 days have a temporary setback on the CIBIL score, while major defaults – those that are beyond a period of 9o days damage your score for a much longer time.

So, paying off dues on time is arguably the most essential trait that could give you a favourable score.

Utilize credit moderately

Every credit card that you have has a maximum limit that you need to abide by. However, that does not mean that you max out your card every month. Doing so indicates that you are credit hungry and lowers your CIBIL score. The other side of the story is that if you utilize up to 30% of your credit limit, you automatically score well in your CIBIL report.

Curb the urge to stock credit cards

Avoid the impulse to decorate your wallet with colourful credit cards – especially if you are thinking of applying for a major loan, like a land mortgage loan, in the near future. Lending institutions view this as an indication that you cannot live within your income and are over-dependent on credit. They are skeptical about your capability to repay any further debts. So, use your limits wisely and let that reflect in your score.

But, don’t be over-cautious about using credit cards

If you own plastic money, make use them regularly. Only be sure to pay the balance off on time (Advice #1). Does that contradict what we just said about using too many cards? Not really. The key to maintaining a healthy score is to using them without excess. Owing a credit card and not using it does nothing to your score. On the other hand, showing that you can keep your debts in control, by paying off dues every month gives you a healthy score. So, go ahead and keep your cards active.

No credit score? Should you be worried?

Not having a credit score can be a bit of a Catch 22 situation, as having a credit score will help you qualify for credit, but at the same time for someone with no credit to begin with, how does an individual get a score? This is especially difficult for a first-time applicant for a loan or credit card as the lender needs to establish their creditworthiness. What thenl is the solution? Where should an individual start?

Globally, credit information companies or bureaus are trying to break this hold to establish credit scores by using alternate information such as rent payment details and information from public records to help establish credit history. As on date in India, we do not have a similar practice, and having a credit history is the only way to pull up credit scores.

Why is a credit score important?

A credit score is a numeric representation of your creditworthiness and is the first piece of information a lender will view when you apply for a fresh line of credit, be it a bank or any other financial institution. The score helps them determine whether you are likely to default on a loan, or whether the loan will go ‘bad’. Typically ranging between 300 and 900, a healthy or good score can help you obtain a loan when you really require one. Often, it can be the differentiator between an application being approved or rejected. While a loan for low credit score is not impossible to get, it could mean a compromise in the loan terms and conditions, especially with regards to the rate of interest being offered. A good score is most likely to result in the most competitive rates.

Help! I don’t have a credit score! What do I do?

Even if you don’t have a credit score to begin with as of now, do not worry. Let’s take a look at the options open to you, in order to start building your credit score.

Secured credit card – This is a sound way to get started on building your credit history, and banks are willing to offer this product to their existing customers. The card is linked to a fixed deposit that you maintain with the bank, and if need be, dues are recovered by liquidating the deposit. Of course, if you are looking to establish credit history, make sure that all payments go out on time, with no delay and ideally in full. When done over a period of time, it indicates healthy credit behaviour, that the person is able to handle credit responsibly. This will help your score, and over time even increase credit score.

Become an authorised user – If you are finding it difficult to avail of a card in your name, consider becoming an authorised user jointly with someone (typically immediate family) who already has a credit card. The repayment behaviour will help you put together your own score, as the primary cardholder’s good payment history will appear on your credit report. If you do choose this option, make sure you monitor your credit report at regular intervals to ensure correct reporting is taking place.

Make small purchases – If you’ve held a card in the past and did in fact have an established credit line, you can look at ‘reviving’ it by making a small purchase on the card, which will immediately pull you back into getting a credit score. Remember, credit bureaus use algorithms to develop a score, and one of the requirements is a usage pattern which will come in only once you use a card. Hence to start off the process, make a purchase, but also make sure that you pay off the dues as soon as the card statement comes in. This information once reported to the bureaus will help you begin establishing a credit history.

In conclusion

Once you have credit, be judicious in its usage. Timely payments go a long way in making sure that your history remains good, as does the length of accounts you have open. Hence retain good ‘old’ debt if possible, as keeping an account that is for example a decade old will boost your credit score. To make sure that you do not fall into a debt trap – and this is very important for first-time users – do not sign up for more cards than you can manage. Further, do not spend more than you can comfortably repay, in order to set up what you had intended in the first place – a good, strong credit history that over time will work for you.

Once you have started building a credit score do keep in mind that it requires financial discipline in order to maintain a score and subsequently even boost it. Over a period of time it can be done, and in the long run will prove essential to help you stay financially fit.

 

Credit Utilization and its effect on CIBIL Score

Rate of credit utilization is the amount of every outstanding balance on your credit card denoted as a percentage of the total of your credit limits of all your credit cards. Your CIBIL score is better if your credit utilization is lower as it displays that you are utilizing only a miniscule part of your limits. It is recommended that an individual’s credit utilization rate should not exceed beyond 30%. Credit utilization represents how people utilize their credit cards and how governed an individual is while using his/her credit.

How rate of credit utilization has an effect on your CIBIL score: The credit utilization rate is a guide for creditors indicating the risks of lending. It is a signal for the creditors that the individual seeking the loan may be facing financial constraints and might be a credit risk. Individuals who tend to cross their credit limits constantly, spending all the money have the tendency of being considerable risks when it is time for repayment in comparison  to people who tend to use their credit cards  responsibly and within their credit limits.

It is a little difficult to compute in exact terms how the rate of credit utilization will affect your credit score, given the availability of different score models. However, there is a staunch correlation between the rate of credit utilization and the credit score. With the exception of people whose rate of credit utilization is at 0%, the people whose credit utilization rate have lower averages have better credit score in comparison to the people who utilize the entire limit on their credit cards. People with multiple cards and a good, long credit history are not as affected by the high rates of utilization as the people using only one card with lesser credit history.

Ways to reduce your utilization rate:

 

  • It is not enough to repay your credit card dues once at the end of the month. Issuers of the credit card can share your account details with credit rating bureaus at any time which may not necessarily be at the end of the month post you paying off the balance. There is a possibility that your balance was high at the time of sharing the data. Therefore, it is advisable to repay your credit dues more than once every month in order to maintain a low balance.
  • If you have more than once card, it is recommended to try to utilize different cards for different transactions rather than using just one card for all the transactions. This would leave you with multiple cards with low utilization rather than one card with high utilization.
  • You can try to maximize the availability of your credit limit. It will not hurt to apply for a limit increase if you have a good credit history or an increase in income. This will assist in having a low utilization rate since your limit has increased while still spending more.

 

Thus, rate of credit utilization plays an important role in your credit score.

Why is the CIBIL score different for personal loans?

A personal loan is a quick and relatively hassle-free way to secure funds for an unforeseen emergency that requires funds urgently. The best part about personal loans is that the end use is not defined, and you can use the funds to fulfil (almost) anything you had in mind, from a vacation to home renovation to purchasing a new electronic appliance or jewellery. Of course, the usage cannot be such that it violates any laws, for example using the disbursed loan amount for trading on the stock exchange, or gambling or laying bets.

Once you have identified the need for a personal loan, start shopping – look around for the best deals in the market, primarily in terms of interest rates. While the eligibility criteria for a personal loan may differ from lender to lender, one thing that they all have in common is the requirement of a ‘good’ CIBIL score.

What is a CIBIL score?

A three-digit score that indicates an individual’s creditworthiness, the CIBIL score is crucial when it comes to applying for a loan or credit card. When a lender evaluates your loan application, the first piece of information they look at is this score.

Why is a CIBIL score required?

Typically, a score is between 300 and 900, and higher the score, better are your chances of the application being approved. A lower score may indicate that a person relies heavily on credit to make ends meet, and hence a lender may be reluctant to extend fresh credit, as chances of the loan going ‘bad’ or delinquent are higher.

Factors affecting the CIBIL score

Now that we know what a CIBIL score is, let us look at the factors that affect the score:

  • Timely payments on outstanding dues, be it towards an existing loan EMI or credit card

  • Making complete payments on outstanding bills

  • Non-payment or late payment of bills and EMIs

  • Consistently utilising a high credit limit, i.e. either maxing out on the assigned limit or close to it

  • Regularly paying only the minimum due on credit cards

  • Having multiple lines of credit at the same time, especially if unsecured loans or credit cards

While some of these factors affect the score negatively, others can have a positive impact on your score.

CIBIL score and loans

While CIBIL scores are important for any loan application, they assume special significance in the case of personal loans. This is owing to the fact that personal loans are unsecured products, and is therefore more of a credit risk for the lender.

A lender is more likely to approve a loan application for someone with a higher score, which with CIBIL is normally considered to be 700 and above. A ‘good’ score indicates an individual’s responsible behaviour towards credit, and hence it may be worth lending to such a consumer.

CIBIL TransUnion Personal Loan Score

In addition to the CIBIL TransUnion score that is used by banks and other financial institutions when determining whether to approve a loan application (for example, a home or auto loan), there is also the CIBIL TransUnion Personal Loan score that lays special emphasis on any unsecured loans or credit cards that an individual may have in their credit report.

The repayment behaviour on these loans is carefully studied, and a score is arrived based on the same. The score will provide information on the likelihood of the customers becoming 91 days delinquent on a personal loan. This helps a lender make an informed decision, whether to approve the loan application or not.

How to better your CIBIL score

In addition to using credit wisely and making timely payments, check your credit score regularly. This will help you identify any irregularities in your credit report, and these can be rectified once brought to the attention of the credit bureau.

If you still need assistance to improve your score, consider availing of the services of a credit health management company, who will work closely with you to not only improve your score but enhance it over time.

Do keep in mind that for your loan application to go through, being credit healthy is non-negotiable, and the best time to start is now.

How to Check Loan Eligibility for a Particular CIBIL Score ?

CIBIL Score is one of the most crucial factors when it comes to decision making (by the lender) regarding who to lend to for most loans but not for all. CIBIL score allows the lender to decide which loan applications to accept and which to reject. Having said that it is important to remember that different lenders have different threshold levels at which they are willing to lend. Also for different types of loans the level of CIBIL score acceptable will also vary. For some types of loans CIBIL score is not even considered.

So while a bank may be willing to sanction an auto loan at the CIBIL score of 650 the same bank may not consider sanctioning a personal loan at that CIBIL Score. Again another lender may sanction a personal loan at the level but with a higher rate of interest. Loan for low CIBIL score is a possibility but this option is an avoidable one (this is explained in later part of the post).

The chart below explains how loan eligibility and Credit score are related.

Type of Loan:

As discussed earlier the type of loan is an important factor that determines if a particular CIBIL score is acceptable. Generally for loans that are asset backed a lower CIBIL score might be acceptable when compared to a non asset backed loan. In the case of an asset backed loan the lender has some asset to fall back on, for recovery but in an unsecured loan this is not possible. For a few types of loans like gold loans, loan against deposit or insurance policy or securities the lender will not even consider the applicant’s credit score. Depending on the asset and the lender’s policy 70% to 90% of the asset value is sanctioned as loan and the asset is mortgaged to the lender.

In case of a personal loan the lender has nothing to fall back on; in such a scenario they would be very stringent about who to lend to and will like to lend to those with a very health credit score.

Lender’s Policy:

Each bank decides at what score they are willing to lend as per their polices and guidelines. Generally mainstream private and public banks will be less flexible about this parameter. Private lenders, co-operative banks and HFCs etc might be more flexible when it comes to credit score. They might choose to overlook the credit score in case the prospective borrower has a deep, long relationship with the bank, or if there is a guarantor involved or they may be willing to lend at lower scores as a policy matter or with a higher rate of interest.

Applicable Interest:

The credit score impacts the applicable interest rate that a customer has to pay for the loan. Lenders charge interest for allowing a borrower to use the money that is not his/hers and also for the risk they undertake when lending money. A higher risk profile is reflected by a low credit score; thus a lender might charge a higher interest and the converse is also true. Thus for a lower CIBIL score the borrower may be forced to pay a higher interest.

To Borrow or Not to Borrow with a Low Credit Score?

If you have a low CIBIL score the first thing to consider what type of loan you require. It is also a good option to consider loans that do not require a credit score as an eligibility criteria (examples discussed above) in case of a low credit score.

Some types of loan and lending institutions have room for flexibility so the borrower can explore the option of approaching a co-operative bank or make use of a guarantor or a co-borrower.

If the above is also not feasible then we come to the option of paying a higher than the prevalent interest and borrow from private lenders. This option is ideally avoidable as these loans are very expensive.

Ideally one should focus on keeping their credit score healthy and before borrowing try and start working a couple of months in advance to improve credit score. A low credit score indicates that all is not well with the financial health and adding debt is not a good idea in such a scenario. Instead of borrowing at exorbitant rates it’s better to try and improve your credit score and then borrow once things have improved. Loan eligibility for a particular CIBIL score is not universal; generally a score above 750 is considered good. For scores lower than that the type of loan, the lender’s policy and the borrower’s willingness to pay higher interest determine whether a loan will be sanctioned or not.

How to get a loan with a low CIBIL score

So you have a low CIBIL score and still want to apply for a loan. Follow the following steps to be able to have access to credit facilities:

  1. Check your CIBIL report thoroughly for any negative flags or more importantly an error since errors can lead to serious implications and result in loan application getting declined.

  2. In case you have had repayment issues in past and have unpaid amounts due on your accounts, please contact the concerned lender and pay them complete dues till date. Any outstanding past the due date again will have detrimental impact on your credit health and thus lead to underwriter declining your credit request.

  3. Once you have paid off your dues to the lending institution, they shall give you a letter of no dues. Do ensure that the letter being given by the lender explicitly states that the negative flags like “Settled” or “Written Off” on the particular account will be removed from the credit bureau report. Continued reflection of these negative flags again will lead to rejection from banks and thus making the availability of funds inaccessible.

  4. Errors on credit reports are common. Please check your report thoroughly. If you find any error on your report, please contact the concerned lending institution and CIBIL, and raise a ‘cibil dispute’.

  • On doing so, the CIBIL will forward the request to the financial institution that has reported the data.

  • Upon getting a clarification from the concerned lending institution, the credit bureau shall rectify the records. This shall in turn lead to improvement of your credit score.

  1. Remember that while your credit score plays an important role in the loan approval process, other factors are also taken into consideration by a lender.

    • This is especially true for loan products.

    • It is likely that a low score may mean approval of a loan at higher interest rates, or with other mitigating measures.

  1. Consider trying to better your credit score by getting professional help. A higher score will not only lead to you getting funds at the time of need, but also at a better rate of interest. A lower interest getting charged on your loan will result in substantial savings.