It’s been almost 13 years since the country’s first credit bureau—TransUnion CIBIL Ltd—started giving credit scores to customers. Over time, companies from different sectors were allowed to access credit reports and even build their own evaluation processes, but consumers didn’t really benefit from it. Unlike in developed markets, where credit scores are used to determine the rate of interest on a loan, in India, it was mostly used for approving or disapproving a loan application. This seems to be changing now, thanks to public sector banks (PSBs).

Since the Reserve Bank of India directed banks to link all retail loans to an external benchmark, some PSBs have started offering differential interest rates, primarily on the basis of credit scores. “We have seen some public sector lenders move to clear credit score-pegged rates. This is likely to become the norm going forward as the information asymmetry between consumers and lenders reduces," said Hrushikesh Mehta, country manager, India, ClearScore, a UK-based fintech firm.

Also, as fintech startups disrupt the existing financial services models, there could be innovative products that individuals can access based on their credit scores.

PSBs take the lead

Some banks are already using credit scores, apart from some other factors, to categorize consumers in different risk buckets.

Bank of Baroda is among the first banks to offer risk-based pricing for retail loans on the basis of credit scores—the higher the score, the lower the rate of interest on a loan. The bank’s pricing is benchmarked in four categories. The first category comprises of prime customers—those with a score (currently benchmarked against the CIBIL Vision score) of 771 or above—get the lowest rate. The second category is of customers who have a score between 726 and 771, the third bucket is of customers with a score between 701 and 650, and the fourth category comprises those with scores up to 650. Customers who are new to taking credit get higher rates.

Customers who fall in the first category get home loans at 8.15%, the lowest the bank offers. The rates can vary up to 100 basis points (bps) for different categories of customers. One bps is one-hundredth of a percentage point. “Our experience shows that customers with lower scores have a higher delinquency. Those who have a score of 771 or above have lower likelihood of defaulting. By differentiating on the basis of credit score, we even managed to lower the non-performing assets in the retail portfolio," said Virendra Kumar Sethi, head, mortgages and other retail assets, Bank of Baroda. The bank doesn’t have any differential pricing based on factors such as gender, salaried and non-salaried categories, or the loan amount.

Similarly, Syndicate Bank, which is being merged with Canara Bank as part of the broader reorganization of PSBs, has three categories—customers with a score of 750 and above, between 650 and 749, and between 600 and 649. It has other risk metrics as well. For instance, if a salaried woman borrower in the first category gets a home loan at 8% (8.05% for non-salaried), the one in the third category pays 8.45% (8.50% for non-salaried) for a home loan of 50 lakh. For a salaried man, with the best score, the interest rate is 8.05% (8.10% for non-salaried) and for the lowest score, it is 8.50% (8.60% for non-salaried). There’s a difference of about 10 bps for a higher loan amount. There’s a similar differentiation in auto loans and other consumer loans based on how the consumer is categorized.

Union Bank of India has two categories—700 and above and below 700. The home and auto loan interest rates differ by 10 bps for the two categories.

Canara Bank has four categories and the differentiation can be a stark 1.95% in home loans and 2.55% in auto loans among various categories. Bank of India has three categories where the difference in interest rates is up to 30 bps for home and auto loans.

Private lenders lag

Private banks and non-banking financial companies (NBFC) don’t yet reward customers who have a better score, especially in the home and auto loan segments, said experts. Large private banks usually lend to customers who have a higher credit score, leaving little scope for differential pricing, they added. Of the total consumers whose credit score is available, 60% have a score of 775 or more, according to data from TransUnion CIBIL’s website across institutions. “Also, the competition is tough among private banks. If they adopt differential rates for customers with higher scores, the borrower may go to other institutions offering lower rates," said Harsh Roongta, Mumbai-based Sebi-registered financial adviser and a former banker. As of now, most lenders offer similar rates, the difference being a marginal 5-10 bps.

Barring a few large ones, NBFCs typically cater to borrowers whom a bank would not accept due to low credit scores. NBFCs, therefore, charge higher interest rates compared to banks as they price their loans for the higher risk they are taking. Their cost of funds is also usually higher compared to banks, which is another reason for higher rates, again leaving little scope for differential pricing.

Unsecured credit

In the unsecured loan business, however, even private banks are charging differential rates. “The difference may be lower for home loans, which have low interest rates to begin with but are significant in personal loans. A person with a credit score of 800 would get charged 11% to 16%, while a person with a score of 650 will be charged 18% to 36%, not to mention the latter will have fewer lenders to choose from," said Mehta.

In the case of credit cards, the credit scores don’t matter. “Credit cards compete on rewards because, in India, they are mostly used as a payment and not a credit tool," said Mehta.

Wider application

With fintech disrupting the financial services space, credit scores are becoming more important. Telecom operators have started using credit scores to assign credit limits for new customers, while insurers use it for issuing high-value covers. Individuals can also use it to avail pay-later facilities on online shopping platforms or cab aggregators, wherein they can spend their credit limit and repay within a specified period of time.

“We are starting to see the usage of credit score in non-conventional areas such as car lease, medical claim settlement, property rental and background verification checks in the recruitment process," said Ashish Singhal, managing director, Experian Credit Information Co. India, a credit bureau. Singhal believes that as the number of consumers goes up, so will the number of service providers using credit scores to offer innovative products.

For lenders, credit scores remain a key parameter to evaluate customers’ eligibility. “It works as a first impression for the lender; the higher the score, the better are your chances of the loan being reviewed and approved. A lender’s evaluation process, typically, includes factors like income, age, repayment capability, other expenses and liabilities, financing pattern and assets owned," said Sujata Ahlawat, vice-president and head, direct-to-consumer interactive, TransUnion CIBIL.

Risk-based loan pricing or differential interest rates based on credit scores make PSBs a better option for borrowers who have higher credit scores and are seeking a higher loan amount.

So start building your credit score now and if you already have one, compare your options in the market before signing up for a loan or other services.

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