This was very straightforward from the standpoint of lenders. However we encountered a surprisingly high level of misunderstanding from consumers about this subject.
The easiest way we found to explain the credit granting process is that credit grantors consider the three "C"s. Character, Collateral, and Capital. These three "C"s represent security to the prospective lender. The stronger all three factors are the more likely a consumer will be approved at the lowest rates and best terms because they represent very little risk. If one of "C"s is weak, the loan may still be approved but at slightly higher rates because of the higher perceived risk.
Character:
Based on our research – Character is the most important aspect for the majority of applications submitted to lenders. Most lenders have no personal contact with individuals applying for credit. Because of this, "character" is determined by your credit score. Although we found that the other two "C"s are critical for some loans, particularly home loans, character (credit score) was the most important criterion in the case of personal loans, car loans/leases, and credit lines. For credit cards, the credit score was oftentimes the only factor considered.
Capacity:
An estimate of the amount of debt the borrower can handle, capacity is largely based on income, especially in relation to the amount owed. To calculate the debt to income ratio, add up all monthly obligations and divide that by the gross monthly income. A low debt to income ratio would be 15%: a high debt to income ratio would be 35% or more.
A low debt-to-income ratio may significantly bolster an application. As a general rule, the total debt payments, including mortgage payments and other installment payments, should not exceed 36% of the gross monthly income. A significantly higher ratio may cause applications to be denied unless a broker with loan programs designed to meet the needs of those with high debt to income ratios is consulted.
Collateral:
"Collateral" measures current assets, including savings, investments, and property. In the case of a secured loan, collateral reassures a lender by providing a means of repaying the loan in case of default. It may also provide evidence that the borrower has met financial obligations in the past. A fully paid car, for example, shows that the borrower successfully paid off a car loan. For unsecured loans, such as credit cards, capital is not normally a factor.
The more evenly each of the three "C"s are weighed by a lender considering approving a loan, the more opportunity and flexibility a consumer has to meet the bank's guidelines. Mortgage applications strongly consider each of these areas, that is why it is generally easier to be approved for a home loan than it is to get approved for a major credit card.
