To determine a borrower’s creditworthiness, most lenders use the 5 Cs of credit. This helps them decide whether or not to approve you for a credit card or loan.What are the 5 Cs of credit? They are: Character, capacity, capital, collateral, and conditions. Learn more about each one, how they work, and how they might help you borrow money when you need to.
What Is Credit?
Your credit is your ability to manage and pay back money you’ve borrowed. Lenders look at your credit report when deciding whether to loan you money. Your credit report includes your credit score and your credit history.
As mentioned, there are 5 Cs of credit: character, capacity, capital, collateral, and conditions. Knowing and understanding these criteria can help you improve your creditworthiness and potentially help you qualify for a loan.
Character
When it comes to credit, “character” means your credit history. Credit history is how you’ve managed debt in the past, and it includes every credit card or loan you’ve ever taken out.
Lenders report the history of each of your credit accounts to the credit bureaus. This information is included in your credit report and it’s used to calculate your credit score. Credit scores are important because they help determine if you’ll be approved for a credit card or a loan, and at what interest rate.
In general, the higher your credit score, the lower the personal loan interest rates or credit card interest rates you may qualify for.
To check your credit score, start with your bank or credit card company. Many of them now offer free credit scores for their customers. You can also check your score with one of the three credit bureaus.
Credit scores are based on a variety of factors, including payment history, the types of credit you have, the length of your credit history, and your debt. To build an average credit score, there are a few things you can do. First, always pay your bills on time. Your payment history accounts for about 35% of your credit score, so several late payments could cause your credit score to drop.
Also, try to keep your oldest line of credit open, which will increase the length of your credit history. A longer credit history may help you achieve a good credit score.
Finally, keep your debt as low as you can. Having too much existing debt can cause your credit score to decrease, and even potentially lead to a bad credit score.
Capacity
This is your capacity to repay loans. Lenders figure out your capacity by comparing your debt to your income. This is known as your debt-to-income ratio (DTI). Your DTI can be calculated by adding up all your monthly payments and dividing that amount by your gross monthly income, and then multiplying the resulting number by 100. A low debt-to-income ratio usually means less risk for the lender. Ideally, lenders look for a DTI that’s below 36%.
To improve your capacity, you can either increase your income or decrease your debt. For instance, you might ask for a raise at work, apply for a better-paying job, or get a side hustle to boost your income. Paying off your existing loans, such as a car loan or student loans, will help reduce your debt.
Capital
Capital refers to savings, investments, or assets you’re putting toward your loan. This could be the down payment on a car or house. Typically, the higher the down payment you make, the lower the interest rate you might get. Capital helps a lender feel more confident about your ability to repay the loan.
One way to improve your capital is to save more money. For example, dedicate a certain portion of each paycheck to savings and/or investments.
Collateral
Collateral is an asset used to back a loan; it acts as extra security for the lender. If you don’t repay the loan or credit card, the lender or bank can take possession of your collateral to help recoup their losses.
Not every type of loan or credit card requires collateral, but some, like secured loans and secured credit cards, do.
The kind of collateral you put up depends on the type of credit you’re applying for. If you’re buying a house or car, the home or the vehicle are the collateral. If you’re applying for a secured credit card, you may have to give a cash deposit as collateral.
Conditions
This means additional information that may be relevant to your credit application — both personally and in a broader sense. “Conditions” might include such things as current federal interest rates, the health of the economy, and how you plan to use the money.
Of these conditions, the only one you may be able to control is your intended purpose for the loan. A lender might be more willing to lend you funds for a specific stated reason, such as personal loans for home improvements that could add to the value of your house, rather than a purpose that’s vague or undefined.
The Takeaway
The 5 Cs of credit are criteria that help lenders determine the creditworthiness of potential borrowers. The 5 Cs influence whether or not a lender approves you for a loan or credit, the amount they’re willing to lend you, and the interest rate and terms they offer. Knowing about the 5 Cs of credit and how to improve them could increase your chances of qualifying for a loan.
This article originally appeared on SoFi.com and was syndicated by MediaFeed.org.
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After years of paying bills on time and playing your credit cards right, you finally made it. You’re a member of the 800+ credit score club, and you’re eager to find out what you can do with your elite status to better your life.
Now that you have an excellent credit score, a whole new world of lower interest rates, top-tier credit cards, and loan opportunities await.
Here are 8 things you can do with an 800-plus credit score:
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One of the perks that typically comes with a credit score of at least 800 is a lower interest rate when you apply for a credit card. But what if you can get better interest rates on the credit cards you already have?
To get the best interest rate, skip the credit card issuer’s contact form. Instead, get on the phone and make your case to a real person.
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You may have settled for average credit card terms while working your way to that 800+ credit score, but now you’re a credit card issuer’s dream cardholder. That means credit card companies are constantly besting each other’s offers and benefits to entice you to apply.
Now you’re ready to apply for cards offering $300 to $750 sign-up bonuses, lower interest rates, and 0% introductory APRs. You’ve also opened the door to higher cash back rewards ranging from 3% to 5% on certain purchases.
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A higher credit limit can help improve your credit utilization rate, the balance-to-limit ratio on all revolving credit. Credit utilization comprises around 30% of your credit score, according to major credit bureau Experian, which recommends keeping your credit utilization rate below 30%.
Now is the time to call your credit card issuer and ask for a higher credit limit, explaining why you need more available credit. For instance, maybe you want to make a large purchase or you’re buying a home and plan to use your card more frequently.
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If you took out your mortgage loan a few years before your credit score moved into the excellent range, refinancing could save you tens of thousands of dollars. Better credit typically helps you receive a lower interest rate, so refinancing at a lower interest rate, especially for a shorter loan term, can help pay off your home faster and save thousands of dollars in interest.
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Many auto insurers use credit-based insurance scores to determine whether the insured is entitled to a discount based on a good credit history. Give your agent a call to find out if you can get a lower premium based on your good credit.
Find out: How to Save Money on Car Insurance
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Even if you haven’t used a particular credit card for a year or two, keeping the card open with a zero balance contributes to keeping your credit utilization score low and your credit score high. Also, if you close a card that still has a balance, your credit line disappears, which means you’ll have a 100% credit utilization rate on that card, which would raise your overall credit utilization ratio.
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Have you ever applied for 0% financing on a new car only to be turned down and offered less desirable terms? Well, those days could be over now if you have an excellent credit score and a well-paying, steady job.
With some dealerships, you may even have a choice between 0% financing or thousands of dollars cash back on a new vehicle.
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Now that you’ve achieved a credit score to be proud of, the last thing you need is for some identity thief to come along and create a bunch of problems you’ll have to clean up later. It’s easy to keep an eye on your credit report, especially with free credit report services such as Credit Karma.
You can also subscribe to a paid credit monitoring service or monitor your own credit by requesting a free copy of your credit report annually from each of the three nationwide credit bureaus, Experian, Equifax, and TransUnion.
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This article originally appeared on Debt and was syndicated by MediaFeed.
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