The Five C’s of Credit & How They Can Impact Your Score


The Five C’s of Credit & How They Can Impact Your Score

August 8, 2022
Certified Credit

From mortgage loans to credit cards, financing can help you accomplish your financial goals more quickly and conveniently than you could otherwise. If you want to take advantage of credit, you need to establish yourself as a trustworthy borrower.

There are five factors that lenders use to assess your creditworthiness. These factors are known as the five C’s of credit:

  1. Character
  2. Capacity
  3. Capital
  4. Collateral
  5. Conditions

Below, we’ll break down each of these C’s in greater detail so you can take the right steps to become a more creditworthy borrower.

#1 Character

Generally speaking, having good character means that you’re honest, responsible, and have integrity.

In the lending world, good character comes down to having a positive credit history and a high credit score. The components of your credit report that indicate good character are:

    • Credit history – Your credit history includes all of the information about your credit activity, such as your open and closed credit accounts, their balances and credit limits, and your payment history. Lenders can view your credit history from the past seven to ten years in your credit reports. Your credit history can give them some insight into how well you’ve managed your credit accounts up until this point.
    • Credit score – Your credit score is a number between 300 and 850 that summarizes the quality of your credit history. The higher your credit score, the better your chances of qualifying for a loan or receiving more favorable terms. Additionally, lenders often have specific credit score minimums as a part of their eligibility criteria.

Together, these two indicators can reassure lenders that you have a track record of making debt payments on time or alert them that you struggled to do so in the past.

How to Improve Your Character

If you don’t have a lot of credit history, you can establish some by applying for a new credit account. If you can’t qualify for a standard loan or credit card, you can explore your options with credit-builder loans and secured credit cards instead. These forms of financing are designed specifically for people who are trying to build their credit. You can find more tips for building credit with no credit history here.

If you have a low credit score, you can increase it over time by:[i]

      • Making all of your payments on time
      • Maintaining low balances on your credit cards
      • Requesting credit limit increases from your credit card providers
      • Avoiding unnecessary credit applications
      • Becoming an authorized user on someone else’s credit card account who has excellent credit

#2 Capacity

Capacity is your financial ability to pay back your debt. Even if you have an excellent credit history and a high credit score, you may not always be in a position where you can comfortably afford new debt payments. That’s why lenders also look into your income and employment history.

Lenders typically evaluate your capacity by looking at your debt-to-income (DTI) ratio. Your DTI ratio is calculated by dividing your total monthly debt payments by your gross monthly income. After that, you simply need to multiply the resulting number by 100% to transform it into a percentage. Lenders’ DTI requirements may vary, especially from one loan product to the next. However, most lenders prefer applicants who have DTI ratios of 43% or below.[ii]

In addition to your DTI ratio, lenders also consider the stability of your employment. Earning a steady income from a stable position is often more reassuring to lenders than earning an inconsistent income from a string of odd jobs.

How to Improve Your Capacity

When it comes to capacity, the lower your DTI ratio is, the better.

If you already owe a large portion of your monthly income to debt payments, a new credit account could easily overextend you financially and put you at greater risk of default. You can reduce your DTI ratio using the following tactics:

      • Increase your income – Earning more money can reduce your DTI ratio, even if your monthly debt payments remain the same. You can earn more money by requesting a raise at work or taking on a second part-time job.
      • Pay down your debts – If you have multiple debt payments, another way to lower your DTI is to pay them off one by one. For instance, you may want to consider making larger payments towards a big credit card balance or paying off some loans early. Just make sure that your current lenders don’t charge prepayment penalties. You may also want to be more discerning about the debts you take on going forward.
      • Refinance your debt – Lastly, you may be able to lower your monthly debt payments by refinancing your loans. While not guaranteed, refinancing gives you an opportunity to lock into a different loan term, a lower interest rate, or most notably, a lower monthly payment amount.

You can also improve your capacity by pursuing a steady career that provides a reliable monthly income. Lenders tend to prefer applicants who hold W2 salaried positions, rather than 1099 independent contractors or freelancers. That’s because salaried positions tend to be more stable.

#3 Capital

Capital includes the money you put towards the purchase you want to finance. For example, your down payment serves as the capital for a mortgage loan.

Contributing more capital to your financed purchase enhances your creditworthiness in two ways:

    • It shows that you have skin in the game – Making a larger down payment can show lenders that you’re serious about your purchase. In turn, you may be more likely to keep up with your loan payments. After all, you have more money to lose personally if you default on your loan and face foreclosure.
    • It can reduce your loan amount – A larger down payment can also lower your loan amount. Smaller loans are often easier to qualify for, since your lender stands to lose less money if you default on your payments.

How to Improve Your Capital

If you want to improve your capital, all you have to do is save up some money before you apply for a loan. You can grow your savings over time by:

        • Earning more money
        • Sticking to a tighter budget
        • Storing your money in high-yield savings accounts
        • Investing wisely

#4 Collateral

Collateral is something valuable that you agree to give your lender if you can’t make your loan payments in the future. Loans that use collateral are known as secured loans.

The type of collateral you need to provide depends on the loan type. For instance, your collateral for a mortgage is the home you purchase with the loan. Likewise, an auto loan uses the car you buy as collateral.

Collateral reduces the risk of your loan for your lender. That’s because they can sell your collateral and regain some of their money if you don’t make your payments on time. For this reason, secured loans often come with more favorable terms, such as larger loan amounts and lower interest rates.

How to Improve Your Collateral

When it comes to this C, all you have to do is offer your lender collateral that suits their requirements. You may also have to get your collateral appraised during the application process.

An appraisal is a process where a qualified, unbiased professional assesses the value of a piece of property. Appraisers may use comparable assets and market trends to finalize their estimates. After that, they put together reports for lenders outlining the details of their evaluations.

Appraisals are important because they reduce the risk for lenders. Without an appraisal, you could inflate the value of your collateral, either knowingly or unknowingly. If this were to happen, your lender could end up losing money when they try to sell your collateral after you default on your loan.

It’s also important to keep in mind that lenders base their offers on the appraised value of homes, rather than their selling price. Thus, if your home’s appraisal indicates that it’s worth less than its selling price, your loan may not cover the entire cost of your new home.

#5 Conditions

The final “C” encompasses the conditions of your financing. Conditions can be internal or external:

    • Internal – Internal conditions relate to the terms of your new credit account.One of the most important conditions is your reason for borrowing money. Lenders often prefer extending loans that have specific purposes, such as auto loans, mortgage loans, or business loans. In contrast, loans that can be used for vague personal expenses may be considered riskier in the eyes of lenders.Another important condition is your loan amount. As we mentioned before, larger loans are often treated with more caution, due to their greater financial risk.
    • External – Lenders may also factor in the economic environment at the time that you apply for your financing. For instance, they may consider federal interest rates, relevant legislative changes, industry trends, and the state of the economy.

How to Improve Your Conditions

If you want to improve this aspect of the five C’s, you can explain to your lender how you intend to use your financing to enhance your capital or cash flow in the future.

For example, you can break down how a business loan can help you pursue a successful business plan or how a mortgage loan will help you obtain a home that will likely increase in value over time.

If your lender has good reason to believe that your financing will help you improve your financial situation going forward, they may be more inclined to approve you for the loan.

Certified Credit: Affordable Mortgage Credit Reports And Lending Solutions

As you can see, each of the five C’s can help lenders determine the risk you present as a borrower.  By optimizing the C’s that are within your control, you can increase your chances of qualifying for financing with affordable terms.

If you want to learn more about the ins and outs of credit, check out the Certified Credit blog. We have a variety of resources for credit consumers and mortgage professionals.

At Certified Credit, we also provide many innovative solutions for mortgage lenders, such as:

  • Affordable credit reports
  • Credit score improvement tools
  • Fraud prevention solutions
  • Automated lead generation tools
  • Automated prequalification
  • Automated verification of income and employment
  • Settlement services

To learn more about our mortgage lending solutions, schedule a credit consultation with one of our credit experts today.



[i] Experian. What Affects Your Credit Scores?

[ii] Investopedia. Debt-to-Income (DTI) Ratio Definition.