Four C's of Credit

What Lenders Use to Determine Mortgage Eligibility

Sep 24, 2009

Knowing what banks and other lenders look at to determine loan eligibility will give a borrower an advantage when preparing a home mortgage application.

Borrowers can better manage their financial stability by recognizing how credit use impacts their lifestyle and how lenders will view this activity.

Lenders examine four aspects of a potential borrower's financial history before deciding on whether or not to lend money and what the terms of that mortgage will be (such as lower interest rates or amount loaned). These four aspects are known as the "four c's of credit": capital, character, capacity, and collateral.

Each one of these aspects of credit need not be perfect. If a customer does not have much for a down payment (capital), a great credit score and a solid job (character) can make up for this. Even if a customer is not applying for a mortgage, knowing what these aspects are will help individuals make better financial decisions every day to better secure their financial independence and security.

Capital refers to the liquid assets the borrow has access to. For individuals, this includes savings, vehicles, and property, for example. Capital, such as cash savings, may be used as a down payment for a home. This demonstrates a financial commitment from the borrower to the lender so the lender does not feel she is taking all the risk.

Character

Character refers to the financial history of a borrower typically demonstrated by a credit score (FICO score). When lenders examine a credit report they are checking to see if a consumer has a responsible credit record. Lenders typically look for: at least three credit accounts

Capacity

Capacity refers to the borrowers ability to repay a loan. One method used for mortgages is to take one third of the household income as the amount borrowers can afford to repay each month.

Showing a monthly budget to a lender will help demonstrate what is feasible to pay each month. Lenders are particularly interested in monthly income and monthly loan obligations as well as current housing and utility costs. Using a budgeting tool can help keep track of monthly costs.

Collateral

Collateral refers to what the borrower will be putting up in case of loan deferment. In the case of a mortgage that means the property.

Some systems include conditions as one of the c's. These refer to the current economic environment, and while important to a lender's decision, it is out of the customer's hands and should not play a role in maintaining healthy personal financial habits or keeping good records.

Further research:

The copyright of the article Four C's of Credit in Home Mortgages is owned by Timothy Dzurilla. Permission to republish Four C's of Credit in print or online must be granted by the author in writing.