📚 PASS Investment Adviser (Level 1) Difficulty: Beginner ℹ️ Info   ~5 min read
📌 Chapter 4.4 — Calculate the debt servicing requirements

Imagine you are reviewing a client’s profile for a comprehensive financial plan. While their income appears robust, you notice that their primary credit card is consistently utilized at 95% of its available limit. As an investment adviser, this red flag suggests a potential liquidity constraint or poor cash flow management, even if the client makes their minimum payments on time. Understanding the debt-to-limit ratio—or credit utilization ratio—is essential for assessing not just personal finance, but the underlying risk profile of any borrower in the Indian market.

Credit utilization is calculated by dividing your total revolving credit balances by your total available credit limits. This metric is a significant component of the CIBIL score calculation, as lenders view high utilization as a signal of financial distress or an over-reliance on debt. For an analyst, a ratio above 30% is generally considered a warning sign.

When you provide advice, it is vital to communicate that even if a borrower pays their dues in full each month, carrying a high balance throughout the billing cycle can depress their credit score because bureaus capture utilization data at the time of reporting, not necessarily after the payment is made.

Consider a case where a client plans to take out a mortgage in six months. They have a credit limit of ₹10 lakh across their cards and currently maintain a balance of ₹8 lakh. Their 80% utilization ratio will likely lead to a lower credit score, triggering a higher interest rate quote from the bank. By paying down these balances to below ₹3 lakh before the bank conducts its credit check, the client can significantly improve their score.

This simple adjustment demonstrates how managing credit utilization is a strategic lever for optimizing borrowing costs in the Indian banking system.

For investment professionals, this concept informs how you judge a client’s capacity for debt-funded investments or business expansion. If a client’s debt-to-limit ratio is consistently high, they may be disqualified from preferential lending rates. Incorporating this analysis into your advisory workflow allows you to proactively recommend debt restructuring, thereby improving the client’s financial reputation before they enter the credit market for larger capital requirements.

Nuance

⚠️ Nuance
A common professional misconception is that closing an old, unused credit card account will improve one’s credit score. In reality, this often hurts the score because it reduces the total available credit, thereby increasing the denominator in the utilization calculation. Furthermore, it may shorten the credit history length, which is another negative for the scoring model. Analysts should advise clients to keep old accounts open to maintain a higher total limit and a longer account history, provided those cards do not carry annual fees that offset the benefit.

Check Your Understanding

Practice Question 1

An analyst is evaluating a client’s credit profile. The client has three credit cards with individual limits of ₹2,00,000, ₹3,00,000, and ₹5,00,000, respectively. The current outstanding balances on these cards are ₹1,50,000, ₹2,80,000, and ₹50,000. What is the client’s total credit utilization ratio?

Practice Question 2

Which of the following scenarios best illustrates a strategic move to improve a client’s credit score related to utilization?

This is a companion read for Section 4.4 — Calculate the debt servicing requirements from PASS Investment Adviser (Level 1) by Akhilesh Gururani, available on Amazon Kindle.

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