Banks unwilling to extend loan to new borrowers without credit history

New-to-credit customers should use secured credit cards to build up a track record, or turn to digital lenders and P2P platforms for loans

It’s a strange situation for young borrowers, or ones who have never borrowed. Banks are unwilling to extend a credit card or personal loan without a credit score. But unless they get access to these products, they cannot build a credit history. Such borrowers need to use innovative ways to build their credit track record, or borrow from alternative sources of credit.

According to a recent research report, EY FinTech Adoption Index 2017, bank deny loans chiefly on account of unavailable or incomplete credit scores. The population segment that is denied loans consists mainly of students, consumers seeking to consolidate debt, new-to-bank consumers, and small and medium enterprises, which together account for approximately 90 per cent of the market. Data from Stashfin, a digital lending platform, also says that only 6-7 per cent of the population has access to credit. Over the past three years, around one billion young professionals have joined the workforce, but  credit card penetration among young urban adults is only 1.7 per cent. The gap exists mainly because many traditional lenders do not lend to the new-to-credit segment.

Building a credit history: A young professional should first turn to the bank with he has his salary account for a credit card. Normally, banks do offer it to salary account holders even though they may not have a credit score (because they don’t have a credit history). In recent times, however, many such youngsters’ requests for credit cards have also been turned down. “This is happening because banks are being overly cautious at this point of time,” says Arun Ramamurthy, co-founder, Credit Sudhaar, a firm that helps individuals improve their credit scores.

The next option for people without a credit history is to ask their bank (or any other) for a secured credit card. This card is just like a normal credit card in terms of features and usage. The only difference is that banks take a security before issuing this card. They open a fixed deposit and then issue the card. Banks don’t have to worry about the borrower’s credit profile while issuing this card because they can always withdraw from the security amount if the person defaults. The credit limit in such cards is usually lower than the amount kept in fixed deposit. ICICI Bank’s Coral Credit Card, for instance, has a credit limit of 85 per cent of the fixed deposit amount.  

If the young professional uses his secured credit card well, the bank could convert that card into a normal credit card after eight or nine months. A person’s usage of a secured credit card is reported to credit bureaus, so his credit history begins to build up. In due course, he becomes eligible for other kinds of loans as well.

Improving your credit score: A person may have a poor credit score because he has no credit history. But the score could also be poor because he misused the credit available to him in the past. Such customers should first get in touch with the bank where the default happened, repay the amount due, and thus clean up their record.  

Once they have done so, they should access new forms of credit to build a sound credit history. They could use secured credit cards and small-ticket consumer durable loans — the types of credit usually available to people with low credit scores. Personal loans and credit cards may not be available to them because banks will not have the confidence to give them unsecured loans. 

They should then use these credit facilities in a responsible way to build a good credit history. They should not delay payments or default on them. They should also avoid shopping around too much for credit. Many people approach 10-12 banks looking for personal loans and credit cards. “If you have many credit enquiries in your credit report, it will make you appear credit hungry and pull down your score,” says Ramamurthy. Finally, do not use your credit limit to the fullest extent. “Ideally, you should not use more than 40-50 per cent of the credit limit on your card,” adds Ramamurthy.

Turn to alternative digital lenders: If banks turn down your requests but you need credit support instantly, you could turn to digital lending platforms and P2P lenders. They provide loans to individuals who have a poor credit score or don’t have a credit score at all. Some of the digital lenders are LoanTap, EarlySalary, PaySense, MoneyTap and Qbera. 

These platforms give loans to individuals who are new to credit, have a credit score as low as 600, or have no score at all. “Credit score is an important element that reflects a person’s ability to repay, but it is not enough to reflect a person’s overall creditworthiness,” says Aditya Kumar, founder and CEO, Qbera. These lenders use innovative data sources, advanced data analytics, and proprietary risk-management models to determine the applicant’s repayment capacity. Some of the alternative data sources they depend on include the individual’s social network profile, SMS data, e-mails, etc to provide them with insights into his spending habits and level of savings. “Traditional lenders focus only on the credit score. We take into account traditional and surrogate data points to determine a borrower’s unique circumstance. Using proprietary risk models, we determine his ability and willingness to pay,” says Tushar Aggarwal, founder, Stashfin. 

Peer-to-peer (P2P) lenders are also stepping up to serve the segment not touched by banks. Currently, there are about 32 P2P lenders, including players such as Faircent, Lendbox, i-lend and LenDenClub. These platforms link individuals willing to lend with those seeking finance. They too use alternate credit scoring methods for risk assessment. 

Though these fintech firms are quick to disburse credit, their loans come at a higher rate of interest. The interest rate ranges between 11.99 and 36 per cent. Higher interest rates are usually charged from borrowers with income up to Rs 30,000 and having a credit score below 700. The rate of interest also depends on the borrower’s employer, age and a host of other factors.