It’s a warm summer day and you’re at the stadium watching your favorite minor-league baseball team take on a division rival. If your team is having a good season, the game may be a sell-out, and the stadium would be at full capacity. If your team is in last place and known more for errors than home runs, then the attendance would probably not approach the stadium’s capacity.
Applying for and obtaining credit is similar to capacity at a baseball stadium: If you’ve been financially prudent – used a budget, set aside money for savings, held consistent employment, and been responsible with credit – then you will have a high capacity for meeting the obligations of the loan. If you change jobs every couple of months, have a high debt-to-income ratio, and a late payment or two on your credit report – then your capacity is low. Because of this, the lender may tell you that you’re not quite ready for the big leagues.
But financial instability is an issue that can be resolved. With dedication, discipline, and good ol’ common sense, you can increase the capacity of your “home stadium” and put yourself in a better situation to get a favorable loan.
These days, lenders extend credit more loosely than in the past. In fact, some lenders will provide a loan to a borrower who doesn’t have the capacity for repayment. Expecting the lender to be the sole authority on the borrower’s financial state is not a good idea. Therefore, much of the burden is on the borrower to take a realistic assessment of his or her current and future financial situation before signing on the dotted line.
“We often see clients who have taken out a loan and end up way over their heads. This seems especially true with vehicle loans,” said Joel Doelger, director of counseling for Credit Counseling of Arkansas (CCOA). “Somehow, the borrower gets sold on the idea that he or she can handle the $550 per month payment. While the auto finance company may have determined that this was affordable, that company is not paying for the borrower’s gas, insurance, maintenance, or any other item in the person’s budget.”
Questions to Determine Capacity
1. Has their employment been steady during the last few years?
2. Do they have – or will they have – any other major loans?
3. What is their current and future income; and more importantly – what is their debt-to-income ratio?
4. What are their current and future living expenses, and can they budget?
5. How many dependents do they have?
6. Does he or she have someone willing to co-sign on the loan?
The lender would also want to know the other two “Cs of Credit”: Your credit history (“character”) and if you have any assets (“collateral”). But perhaps the most important thing to keep in mind when assessing capacity is that most loans take years to pay in full. Therefore, you will want to carefully consider not just your current financial situation but your future prospects as well.
And after years of demonstrating a pattern of financially responsibility, you will be well on your way to earning capacity worthy of the major leagues.
Mary Catherine Harcourt is with Credit Counseling of Arkansas.
