The make up of your credit score

Many people know that they need a high credit score to get a loan. A high credit score means that there is a lower chance that the money will not be repaid and the easier it is to borrow money. However, it is not widely known what goes into a credit score.

Credit bureaus use information about each borrower that is taken from a number of sources. Former employers, current employers, the number of residences a person has had in the last five years and whether or not the borrower owns his/her own home all provide some input data. In addition, a person’s credit history is examined and how often bills are paid on time is considered. Credit bureaus also look at legal issues such as civil suits, judgments, bankruptcies and criminal convictions which may affect a person’s credit.

All of these items go into the evaluation of a person’s credit. The end result is a determination of a person’s capacity, character and collateral - the three Cs of credit.

# Capacity is concerned with a person’s ability to repay the loan. The lender evaluates the borrower’s income and compares it to current expenses. The length of time a person has been at his/her job, the number of dependents and any alimony or child support payments are also considered. Not only does capacity involve a person’s current financial condition but it also considers future potential income - as would be possible for doctors, lawyers and professional businesspeople.

# Character is a judgment of a person’s willingness to repay debt. By checking into past credit history a lender can determine if the applicant is living beyond his/her means, if he/she is overextended or has been delinquent in paying bills. Character also reflects a person’s honesty in giving accurate and complete information on the application. Judgment of a person’s character also includes an examination of a person’s stability - how long has the applicant been at his/her current employment and how long has he/she resided at the present residence.

# The third C is collateral. Since there is always the chance that a person will be unable or unwilling to repay the loan, lenders often require collateral (generally property is used to secure the loan). If the borrower defaults on the loan, this property can be seized and sold so that the lender can recoup the money lent. The value of the collateral is directly tied to the loan. A car loan may require the car as collateral, a property loan may require the property as collateral. Sometimes, a lender can require money as collateral. A Certificate of Deposit or an annuity may be pledged for the loan. In all cases, if the borrower fails to pay, the asset is seized as repayment for the loan.