Creditworthiness, or the likelihood of you paying off debt, is a big factor in determining whether you’ll be approved for a credit card, a car loan, or a mortgage. It takes into account your debt, your credit history and your ability to repay your loans.
While every lender has their own way of measuring creditworthiness, you need to know how to prove it.
You can report being creditworthy if you have the “three Cs of credit: ability, character, and security,” says Richard L. Ward, chartered accountant and member of the American Institute of CPA’s Commission on Financial Literacy. .
Capacity refers to the amount of debt on your behalf and whether you can realistically handle more of it. Character relates to past behavior and whether you have been responsible for payments. And collateral is the means you have to safeguard any debt you incur.
Your credit score can also show that you are creditworthy. But that’s only part of the story. Jeff Richardson, spokesperson for VantageScore Solutions, developer of the credit scoring model, said, “Your credit history is encapsulated in your credit score, but there are other factors a lender would consider, like income and employment status. ”
No matter how you describe it, credit worthiness boils down to past behavior as the best predictor of future behavior.
What is the point of being solvent?
It is true that people with poor credit or limited credit history can find loans and credit cards, but these options are limited. “Solvency ultimately gives you more options and flexibility,” says Ward.
This is a must have for some homeowners, utilities, and insurance companies who will check your credit report before doing business with you.
Having good credit puts you in a better position of control. The less creditworthy you are, the more likely you are to end up with less than ideal terms and interest rates or to resort to potentially predatory lenders, says Richardson.
“You never want to be in a position where you have to use a lender of last resort,” says Richardson. “You want to be in control. You want lenders to sell you – you don’t want to sell yourself to lenders. ”
From a lender’s perspective, assessing your creditworthiness is first and foremost about hedging yourself against the risk.
Ward explains, “It’s important to them because it’s a risk they take in terms of lending. They want to make sure they get their money back. As a business, they are not going to take risks. “
How Do Lenders Determine If You Are Creditworthy?
The processes and measures for determining creditworthiness will likely differ from lender to lender.
“Lenders all have their own models for determining whether a consumer is going to get a loan and at what interest rate,” says Richardson.
Lenders will present different offers to someone with stellar credit versus someone with fair credit.
A score in the good or excellent credit range will generally qualify you for good terms. That said, lenders do take other factors into account, such as your income, your down payment, and your assets.
What can you do to improve your creditworthiness?
If you plan to apply for a new line of credit in the near future, it is a good idea to improve your creditworthiness. On the one hand, it will improve your chances of getting approved, but it can also mean accessing better interest rates, which can save you money.
Becoming more creditworthy is not difficult, but it does take a little time and effort. Here are the key steps you can take to improve your credit score and, therefore, your overall credit health:
Clean up your credit. Your credit report and credit score will be the first things lenders consider when making credit decisions. You can improve your credit score quickly focusing on the most important factors. This means paying off balances, paying off collection accounts, correcting errors, and building a positive credit history.
Try to maintain a stable income. Lenders want to see that you’ve had a steady job for the past two years, whether it’s a full-time job or some other source of income that is unlikely to change. In the gig economy, where many people are freelance instead of a traditional full-time job, keep in mind that you may need to look for a lender who understands your situation.
“If you are not a W-2 employee, you may difficult to apply for a mortgageRichardson says, adding that banks may want to see two years of financial statements to make sure you have stable income.
Compare the prices. If a lender doesn’t come up with an offer that you think matches your creditworthiness, explore other avenues, says Ward. A smaller institution, such as a credit union, may be more willing to hire you. The same idea applies whenever you have a relationship with a particular institution. This relationship can increase your creditworthiness.
Stay informed. There are many free tools that can help you understand credit and how different behaviors can affect your creditworthiness.
Head toward CreditScoreQuiz.org, developed by VantageScore and the Consumer Federation of America, to test your knowledge and distinguish fact from fiction.
Then sign up for a free credit monitoring service like Capital One’s CreditWise, which also has a credit score simulator to show you how certain choices might affect your score. The service is free whether or not you have a Capital One card.
Creditworthiness is neither a number nor an empty buzzword. This is something to look for if you want to keep your finances healthy.
By improving your creditworthiness, lenders will have to compete for your business with the best products and terms that can save you money. And that’s a great position to be in.