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Whenever a person applies for a home loan, car loan or personal loan, the first thing that comes to his mind is his credit score (CIBIL Score). Most people think that if their CIBIL score is above 750 or 800, the bank will blindly approve the loan. Actually this is half the truth. In modern banking, due to the strict guidelines of the Reserve Bank of India (RBI) and advanced risk-underwriting algorithms, banks examine the profile of any customer from a 360-degree perspective.
Before giving a loan, banks want to ensure that their money is safe and the account does not turn into a non-performing asset (NPA) in future. For this, banks keep a hawk-like eye on the customer’s financial history, spending habits and employment stability. If you are also going to apply for a loan, then understand the 7 key parameters which decide whether your loan will be approved, what will be the interest rate on it or the application will be immediately rejected.
Credit score is the first step in loan verification, but banks are not satisfied with just a three-digit score (like 750 or 800). They scan the entire Credit Information Report (CIR). This report shows how your repayment history has been in the last 24 to 36 months.
If a customer has delayed the credit card bill or any small EMI by 30 to 90 days (DPD – Days Past Due) even two years ago, the bank’s system marks it as ‘persistent behaviour’. Even if the current score looks fine, a past history of late payments can cost you the interest rate or even get the application canceled outright.
Banks do not look at how much you earn every month, rather they look at how much is left in your hands after expenses and existing debts. In banking parlance, this is called ‘Fixed Obligation to Income Ratio’ (FOIR) or ‘Debt-to-Income’ (DTI) ratio.
Generally, banks want that not more than 40% to 50% of your total monthly net income should be going towards the current EMI. If someone’s in-hand salary is ₹1 lakh and he is already paying ₹55,000 in different installments (car loan, personal loan), the bank will flatly refuse to give a new loan. Even if the CIBIL score is 800, a high DTI indicates that the customer may default when the new loan EMI comes due.
For banks, the biggest basis of loan security is the stable income of the customer. Therefore, banks take a deep look at where you work and how long you have been in that profession. Most banks give instant loans at lower interest rates to employees of ‘Cat-A’ (Tier-1 MNCs, government departments or large corporate) companies, because there the risk of job loss is less.
Apart from this, work experience also matters. Banks become alert if a salaried person is changing jobs every 6-8 months or is on probation period in the current company. Generally, it is considered mandatory to have at least 6 months to 1 year in the current job and total work experience of 2 to 3 years. Whereas in case of self-employed professionals, the Income Tax Returns (ITR) of the last 3 years and business continuity are closely examined.
Bank statements of the last 6 months submitted along with the loan application are now verified through automated financial software. Bank statement is not just to confirm the salary, but it is a mirror of the financial discipline of the customer.
‘ECS/EMI bounces’ are first seen in the bank statement. If a check or auto-debit is cut due to insufficient balance in the account, it is considered an alarm bell. Additionally, low Average Monthly Balance (AMB) levels in the account, complete depletion of the account at the end of the month, or frequent large transactions on betting/online gaming platforms can immediately weaken the financial credit of the customer.
It is very important to keep an eye on the ‘Credit Utilization Ratio’ (CUR) while using a credit card. This is a ratio that tells you how much you are spending on average out of the total credit limit you have. As per banking standards, CUR level below 30% is considered ideal.
If a cardholder’s total limit is ₹2 lakh and he swipes the card up to ₹1.8 lakh (90%) every month, banks consider him ‘credit-hungry’. Consistently high utilization indicates that a person is dependent on borrowing even for his regular needs, which increases his chances of defaulting in the event of an unexpected financial crisis.
Lenders also look at what types of loans are included in the customer’s existing loan portfolio. The Reserve Bank of India has also been giving strict instructions to banks to control unsecured loans.
Loans are mainly of two types: secured (home loans, gold loans, auto loans—where a property is collateral) and unsecured (personal loans, credit card loans, consumer durable loans). If a person has only multiple personal loans and several credit card outstanding, banks put his profile in the ‘high risk’ category. Conversely, having a secured loan like a home loan in your portfolio is considered a sign of financial stability and wealth creation.
This is the seventh and most decisive parameter on which banks exercise utmost vigilance, and this point decides whether the customer is safe or is standing on the verge of default. In the language of credit, this is called ‘Recent Hard Inquiries’ or ‘Credit Hunger’.
When a person applies for a loan or credit card, the bank checks his credit report, which is called ‘hard enquiry’. If the bank sees that the customer has made multiple applications for personal loan or credit card in 5-6 different banks or NBFCs simultaneously within the last 30 to 60 days, the system is immediately alerted. This clearly means that the customer is in serious cash crunch and is trying to raise money from wherever he can. Many times customers are trying to take a new loan to repay the EMI of one loan. As soon as the bank sees this ‘credit hunger’ and desperation, it senses that this customer is moving towards default in the future, and such application is immediately rejected.