Lending

Why Credit Scoring is Important to Lending

June 11, 2019

Dara

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A big determinant in whether you decide to lend a borrower money or not is the confidence you have in the borrower’s ability and willingness to pay you back your money. We have mentioned before that their ability and willingness to return your money are two very different things. Just because someone has the means to pay their debts doesn’t mean that they are responsible enough to do it. Credit reports and credit scores are useful tools for weighing in on where an applicant stands when it comes to these two characteristics.

What is Creditworthiness?

Creditworthiness, like the name implies, is a measure of how much a person can be trusted with credit. It is determined based on how an individual has handled credit and debt obligations in the past. A person who has paid up their debts on time in the past is considered creditworthy and vice versa.

What is a Credit Report?

A credit report is a report generated by a Credit Bureau. It contains information on an individual’s demographics and their credit history. It provides a snapshot of the individual’s credit health and includes the following details:

Identifying Information:

Name
Current and previous addresses
Date of birth
National Identity Number (NIN).
Biometric Verification Number (BVN)
Phone number.
Current and previous employers.

Credit History:

List of current credit accounts (e.g. loans, credit cards, mortgages, car loans, etc.).
Terms of credit accounts including original principal amount, outstanding balance and installment payment amount.
Credit payment profile (i.e. payment history).

Public Records:

These include records of bankruptcies, collections, lawsuits, litigations, returned cheques, securities, etc.

Inquiries:

This is a list of creditors/credit grantors and other parties who have been authorized to, and who have viewed the individual’s credit report.

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What is a Credit Score?

A credit score is usually a three-digit number (depending on the Credit Bureau issuing it) which represents the credit worthiness of the individual. It is calculated based on the analysis of the data contained in the individual’s credit report. Its value indicates the ranking of risk associated with that individual. It is calculated based on the following parameters:

Outstanding debt as shown on the credit report.
Payment history.
How often the individual has applied for new credit related facilities over a period of two years. Frequent application for new credit facilities usually affect the credit score negatively.
Length of the individual’s credit history. A longer credit history, coupled with on-time repayments, usually correspond to a higher credit score.
Credit mix represented on the credit report. Having a mix of credit types (installment credit, revolving credit, etc.) usually improves the credit score.

Who Prepares a Credit Report or Calculates a Credit Score?

An entity called a Credit Bureau collects and maintains individual credit information. They obtain this information when financial institutions like banks, and other businesses like moneylenders, phone companies and retail stores that offer credit facilities, report the performance of borrowers to them. They also obtain information from the public domain (including records on court judgements, bankruptcies, and balance sheet and cash flow information on businesses).

There are three Credit Bureaus in Nigeria, and all financial institutions, including commercial banks, development banks, the Federal Mortgage Bank, the Bank of Industry (BOI), Bank of Agriculture (BOA), mortgage financing companies, and mortgage institutions, are mandated by the Central Bank of Nigeria (CBN) to report all positive and negative data on their customers to the Credit Bureaus. The submission of data to the Credit Bureaus is regulated by the CBN, the Credit Bureau Association of Nigeria (CBAN) and the International Finance Corporation (IFC).

The three Nigerian Credit Bureaus are:

CRC Credit Bureau Limited.
CR Services Credit Bureau Plc.
XDS Credit Bureau Limited.

Who can Access a Credit Score or Report?

The information in a credit report, as well as a credit score, are personal and are protected as such. For this reason, only the individual to whom the credit score and report are associated has unrestricted access to them.

This individual can however give authorization to other individuals or entities to gain access to their credit report and score, and the information these entities receive on the individual from the Credit Bureaus can only be utilized for permissible purposes. These permissible purposes (Credit Reporting Act, 2017) include the following:

Granting of credit facilities.
Reviewing, renewing, restructuring or monitoring credits.
Employment checks.
Background checks for prospective tenants.
Underwriting, reviewing, or renewing insurance policies or analyzing insurance claims.
Applications for credit contracts or other post-paid services.
Debt collection, enforcement of a monetary judgment, or enforcement of any other debt.
Carrying out KYC (Know Your Customer) checks on any person for any permissible purpose.
Directive of a regulatory authority or a public body.
Compliance with a court order.

All financial institutions and other grantors of credit are mandated to consider the reports from at least two Credit Bureaus when making decisions on credit applications and transactions. They can get authorization to have access to an individual’s credit report or score only with the individual’s consent. Once the individual gives consent, the financial institutions and grantors of credit can then request their report and score from the Credit Bureaus.

As a Moneylender, you fall under the category of credit grantors. You can therefore request authorization from your prospective borrowers to have access to their credit reports and scores. At this point, it is important to stress that credit reports and scores are not crystal balls or oracles that discharges you from the responsibility of the decision-making process. They are simply tools to assist you in assessing the risk posed by the applicant so that you can make sound business decisions.