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How lenders view your credit

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How lenders view your credit

1. Capital

This is the money or cash that is available to you through savings, investments or any other assets that you can use for repayment of a loan. Your household income is viewed as the main source of repayment, but any extra capital you show lenders tells them that you have saved money and manage your finances well, making you less of a credit risk. Additional capital on hand can help you in case of emergencies such as losing your job.

2. Capacity

This is your monthly income and how stable it has been over an extended period of time. Lenders want to see that you can afford your payments. Often lenders will do so by reviewing your income, work history, and stability along with your earning potential as a way to project your ability to pay back the borrowed debt.

This can be done by evaluating your debt-to-income ratio (DTI), which compares the total amount of debt you owe each month with the total amount you earn. A higher debt-to-income ratio could mean that you are seen as a credit risk and may not be able to afford your loan payments. Lenders can even predict a borrower's likelihood to make payments on time during the length of the loan.

3. Collateral

This is something that you own that can be used for any loans or lines of credit that you apply for that are secured by that possession. A secured loan, such as an auto or home equity line of credit loan (HELOC), means that you will pledge something that you already own as collateral.

That collateral will have a value assigned to it, and any debt that you already have will be subtracted from the value. What is left is the remaining equity that lenders will consider as a factor in their lending decision.

For example, on a home loan, lenders can take possession of your home if you default on the mortgage. They will get an appraisal of the home to get an accurate value of what it's worth to make sure it is worth at least as much as the loan amount you are borrowing. Your collateral is then seen as the officially appraised value of the home.

4. Conditions

This can include the interest rate for a credit card or loan or the amount of money you are borrowing as the lender decides whether to approve you. Conditions can also include the lender asking how you plan to use the money you are borrowing.

The amount you plan to borrow and how you plan to use it can influence a lender's decision. Other conditions that can be considered include the current state of the economy or even different lending trends for that industry, such as the impact of the Great Recession on the mortgage industry in 2008.

5. Credit History

This plays a large role in a lender's decision to qualify you for a loan or credit card. Your credit history is your financial track record that shows how you have managed credit and made payments over time. This history can be seen in your three credit reports, which provide all the information from lenders that have previously given you credit.

This data can vary among the different credit reporting agencies but will include the same information such as the names of lenders that extended credit, the types of credit, your payment history, and more. Most lenders like to see a good payment history, low amounts of debt and no missed or late payments. Your credit history is captured into a single number known as credit scores.

Your credit scores are one of the first things that lenders look at when assessing your credit history. Having a good credit score increases your odds of getting approved for a loan and helps with the conditions of the offer, such as what the interest rate will be. There are many different types of credit scores. FICO® Scores and VantageScore® are two of the more common types of credit scores, but other industry-specific scores also exist.

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