The Four C's of Applying for and Managing your Credit
There are Four C's that come into play when you apply for loans and other forms of credit. Along with the obvious "Credit score" check, attention is given to three other C's of eligibility: Capacity, Collateral, and Character.
Read on for some hints on how to excel at the four C's, as well as determine and improve upon your credit score.
In granting you the ability to buy things on credit, the issuer needs to ensure that you will repay the loan or revolving credit charges. To do this they first examine the "three C's".
You may have the best of intentions to repay a loan, but if you don't have the capacity to do so given your income and expenses, you are dead in the water. They will look at your income, how long you've been at your job, and what the job prospects are in the industry you work in.
CREDIT APPLICATION HINT: Make your job sound stable. I have a friend who is an internationally certified and renowned red seal chef at a premier golf course, earning a pretty penny I might add. But when he applied for credit he was rejected because he said it's just a temporary position since golf courses in his area only operate during summer months. He omitted the fact that he had a job waiting for him as soon as the golf course closed down for the summer, and the marketability for his skills is great. But all the credit company saw was a summer job which reduced his capacity to make payments and he was turned down.
So, make sure that without lying, you paint your job and industry in a favourable light. Are you a "secretary" or "executive assistant", or even "office manager"? Freelancers will have the hardest time painting a picture of employment stability, but it can be done honestly and effectively.
As part of your capacity examination, creditors will also look at any existing loans or credit cards you have, along with your payment histories. If you have too much credit available you may be denied even if you don't have a penny charged to your other cards. They want to know that if you max everything out you still have a chance of paying it all off.
What can creditors take from you if push comes to shove and you can't make payments? It's a yucky way of looking at things, but collateral like non-registered investments and real estate will increase your chances of getting credit easily.
Although a credit application is a lousy judge of personality, there are objective ways for creditors to get a sense of your financial character, like the following:
- Length of residency at your current location
- Length of your employment
- Whether you rent or own your home (you're more likely to stay in one place if you own)
- Whether you have chequing and savings accounts
The Big C in the four C's is of course your Credit Score. It is instrumental and examined when you need new credit, ask for (or automatically receive) limit increases, rent apartments, and pay deposits on utilities and big ticket items.
Fair Isaac and Company (FICO) is one of the most used and well-regarded credit score companies around, and often the one used by creditors evaluating your application. Scores range from the low 300s to highs of about 900. A score above 750 is generally considered to be very good.
Following are the factors FICO takes into account in calculating your score:
- Payment history (about 35% of the score). They are looking for punctual payments with no incidences.
- What you already owe on credit accounts (about 30%). They look at all credit available to you and what the balances are. They may see large numbers of credit balances as a negative, even if you are paying them all off effectively, so beware of juggling too many loans.
- Length of your credit history (about 15%). The longer the history, the better.
- Your new credit (about 10%). If you opened up a series of credit accounts recently, alarm bells will go off.
- Types of credit (about 10%). Ideally you will have a decent mix of different credit accounts (credit cards, lines of credit, mortgages, etc). Being over-weighted in one type of credit may be a negative. Although it makes up 10% of your score, it only really weighs in if there is a lack of information to go by in the other categories.
You are then compared statistically to the average person with a similar profile to yours. Points are awarded for each factor and it all comes out with a magic number that helps creditors figure out who is most likely to repay their debts. (Learn more about credit scores.)
Rate Shopping and Score Inquiries
Every time you approach a mortgage lender or look for an auto loan, they will do a credit report search in order to let you know what interest rate and loan terms they are willing to offer. There is a common notion that every time your credit score is inquired, it reduces your overall score or appears on your report in a way that is unfavourable to lenders.
According to FICO, they do not penalize customers who rate shop. However, they do suggest that if you are to rate shop, that you do it in a space of about two weeks so that your report shows an obvious history of rate shopping.
Reviewing your Credit Report
It is widely suggested that you review your own credit report once a year, as it is not uncommon for improper filings and reports to appear on it. For example, if you have a dispute with a merchant and withhold your credit card payment (which you are legally entitled to do), you may discover that the credit card company negligently filed an outstanding payment report. Too many of these miscellaneous mistakes can contribute to a poorer score than you deserve, and you can take measures to correct them if you review your credit report.
You are entitled to one free copy of your credit report every year, and a good place to get it is here. Beware of some of the extra services offered which will cost you: they are usually unnecessary.
Ways to Improve Your Credit Score
FICO offers the following tips:
- Pay your bills on time
- Make up missed payments
- Keep low balances on credit cards and lines of credit
- Pay off debt completely instead of transferring to other accounts (like doing a balance transfer to a card offering a low teaser rate)
- Don't close credit card accounts just to raise your credit score (it may be perceived as a lack of discipline to keep an account open and not abuse it)
- Don't get new credit cards just to increase credit available to you (ideally you have other emergency measures than credit cards)
For more information on FICO and understanding your score, visit their website here.