If you’ve ever applied for a loan from a bank, an NBFC or a fin-tech, you may Remember the meticulous paperwork and successful completion of all formalities when you’d apply for a loan from a bank, NBFC, or a fin-tech? After all the rigmarole, the lender informs you whether you’re eligible or not.

How does the digital lenders assess this?

The decision is based on—your ability to pay and your willingness to pay.

WHAT IS THE CREDITWORTHINESS OF A CUSTOMER?

Creditworthiness is measured through a credit score (a number between 300 and 900), and assesses how likely you are to pay back the loan. Four agencies in India provide their proprietary credit score (and detailed credit reports)—CIBIL, Experian, Equifax and CRIF HighMark. The higher the score, the better the lenders confidence.

HOW ARE CREDIT SCORES CALCULATED FOR CREDIT RISK ASSESSMENT?

Financial institutions send data to the credit bureaus, who calculates the credit score using proprietary algorithms. The score is dependent on several parameters like:

  • Payment history: Have you made timely payments or defaulted?

  • Credit enquiries: How many times have you enquired for credit applied for loans?

  • Credit mix: Do you have a lot of outstanding debt already? What is your ratio of secured to unsecured loans?

  • Credit utilisation: How is your debt increasing over a period of time?

GOING BEYOND SCORE

Depending on the institution, there can be factors beyond the credit score that act as significant input for loan underwriting. Banks create their own internal benchmarks around acceptable scores and utilize additional data for their approvals. For example, they may refer to your income levels, your employment history, your bank statements,  and their in-house policies and models for credit-risk analysis.

Irrespective of these policies, traditional risk-assessment methods penalise customers who do not have a credit history or are new to it. If credit bureaus do not have enough data on someone, they are expected to pay a higher rate than those whose data is readily available.

If you are a low or no bureau score customer, getting a digital loan becomes tedious. Lately, many institutions have started using an alternate approach to bring cheaper credit access to this segment too.

Alternate data includes multiple information sources like mobile transactions, bill payments history, e-commerce, spending patterns and more.  It gives banks access to a far wider range of variables/information assets, compared to standard creditworthiness tests, thus allowing banks and lenders to make better lending decisions. Even for customers with mature credit histories, this helps drive better confidence, optimal interest rates and terms all around.

A combination of alternative data and traditional bureau data helps improve overall credit risk assessment frameworks. It also helps in assessing the possibility of credit default associated with the inaccuracy of traditional data.

HOW ARE CREDIT SCORES CALCULATED USING ALTERNATE DATA?

A credit score derived from alternate data incorporates many new factors:

  • Financial ability: The customer’s ability to pay from bank account(s)—denoted by income, balance and saving trends. Higher the ability, better the result.

  • Past non-banking credit history and payments: These offer significant insights into customer behaviour. For example, a post-paid mobile bill indicates a small risk taken by the telecom company on you, and the repayment behaviour therein can suggest your overall financial habits.

  • Non-banking transactions and assets: Wallet and UPI transactions are now becoming the new normal for banking spending patterns/transactions. Alternate data also includes information about a customer’s assets (investments) and risk coverage and helps in understanding how well-organized a customer is financially.

  • Recent negative incidents: No customer wants a bounced cheque or penalties around minimum average balance (MAB). Lenders are quite wary of such incidents and may not easily extend credit as a result.