What you need, apart from an excellent credit score, to get the credit you Desire: Potential lenders consider many other factors, in addition to looking at your credit report and your score, before making a decision.
"Debt is like any other trap, easy enough to get into,
but hard enough to get out of."
- Henry Wheeler Shaw |
In order to determine whether to give you a loan, what interest to charge, or what terms they will offer, they also analyze things like the quality of your collateral and your ability to repay. There are four major factors that lenders look at to determine your credit; character, capacity, capital, and collateral. Proper management of credit is a reflection of your character. An excellent credit score is often a sign of good character, but not always. If your credit history indicates good planning and discipline, most lenders will understand that you have good character. If there is a historical pattern of recurring problems, your financial management ability and by extension your character, is in question. Repeated non-payment or late payments of debts is an indication of poor planning and lack of self-discipline. Capital is usually examined from two different perspectives, your working capital and your equity capital. The working capital is a factor of your current assets and liabilities, and tells lenders your immediate repayment ability. The equity capital is your basic net worth and reflects your management of assets in the past. Equity capital is the most essential item for dealing with financial crises. Net worth or equity capital may also be calculated from what is being earned and what has accrued from any appreciation of property value. Capacity, or the ability you have to service your debt, is known as net available cash flow. In order to sustain your lifestyle, an excellent credit score, and provide timely repayment of your debt, you must generate enough excess cash, over and above the expenses, to support all payments. The source of this cash cannot be from borrowings or sale of assets. Collateral is what you have to provide as security to the potential lender. By providing collateral, you are assuring the lender that if you fail to make payments, you will lose ownership, in a shared risk concept where the lender puts up money and you put up collateral. You can borrow less than 100% on collateral that has equity of not less than 30-35% of its value. In addition to an excellent credit score, lender look for an excellent Debt-to-Income Ratio. This ratio reflects the total debt payments you owe, compared to the amount of money you earn. This tells the potential lender if you are already carrying too much debt. The method to calculate your debt-to-income ratio, used by most mortgage lenders, include mortgage payments because it gives a better picture. Ratios slightly lower than the accepted ones by the mortgage industry should be your goal, and below is a simple way to calculate it. - mortgage payments or rent, including property taxes and insurance
- home equity line of credit or loan payment
- car payments
- revolving credit payments for furniture, appliances, loans, etc.
- student loan payments
- minimum credit card payments times two
- Other loan amounts
- child support payments
This gives you your total monthly debt payments. On the other hand, add - Monthly take-home pay
- Annual bonuses, overtime, etc divided by 12
- Any other extra annual income, divided by 12
This is your total monthly income. The total monthly debt payments divided by total monthly income will give you your Debt-to-Income Ratio. This is how lenders evaluate your debt to income ratio. Most lenders consider a debt-to-income ratio of 36% or lower as good. A debt to income ratio of less than 30% is considered excellent , usually paired with an excellent credit score, while 30% to 36% is good. A ratio of 36% to 40% is considered borderline, and while some lenders might still give you a loan, you may have to struggle to make the higher payments. With a ratio of 40% or higher, you are in the red flag category. If this is a case, you may need help re-evaluating your financial situation. Take this matter seriously as your financial future is at stake any time you take on too much debt. Debt should be avoided whenever possible.
"Do not accustom yourself to consider debt only as an inconvenience;
you will find it a calamity."
- Samuel Johnson |
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Debt is NOT your friend. It's not a wonderful "tool" for building wealth. That's a myth.
