Are you in the process of applying for a loan – agricultural, business, or personal? Do you plan on buying a farm or a house in the near future? Do you need to borrow money to expand your business? If you answered yes to any of these questions, or if you ever plan on borrowing money, this article applies to you.
Whether you bank with a small community bank, regional bank or a large publicly traded bank, you need to know what the 5 C’s of credit are, and how they will affect you and your chances of getting a loan from your local banker. The 5 C’s of credit are character, capacity, capital, collateral, and conditions.
Character – If you were to ask a banker what character is today, he or she would say it’s a person that is honest and has integrity. Now that we have determined the definition of character from a banker’s perspective, how do you think banks determine a person’s character? The most common way is to pull a credit report. A credit report will show if you paid your bills on time and shows collection items, judgments and many more items pertaining to your payment history. Do you know what’s on your credit report?
Capacity – Capacity is the ability to service or have sufficient cash flow (money) to pay your debts. Sufficient cash flow is the ability to not only pay all your debts, but to have enough cash flow left over after paying those debts. Additionally, it’s important to save for the unexpected. So, before you go visit your banker for a new loan, sit down and figure out if you have sufficient cash flow. If you realize your debt payments exceed your cash flow, then it isn’t too likely that you’ll get that new loan.
Capital – Simply put, capital is your own money. When you apply for a loan for your farm, business or for yourself personally, do you expect the bank to finance 100 percent of the cost, or are you planning on putting some of your own capital into the deal? The right answer is plan on putting some of your own money into the deal, and your chances of getting approved for the loan will go up substantially. Bankers want to see that you have a financial commitment in your business or your personal borrowings.
Collateral – Collateral is an asset that is used to secure a loan. The most common forms of collateral are real estate, equipment, receivables and inventory. For most people, if you want to borrow money, you will have to pledge some sort of collateral or asset on a loan. So, before you go into the bank and apply for a loan, be prepared to pledge some collateral for your loan.
Conditions – When a banker looks at conditions, he or she is assessing the overall economic conditions and determines how your farm, business or personal situation fits into the overall economy. For instance, if you are a residential contractor that wants to build ten spec homes in this economic environment, do you think that would be a desirable loan for a bank? Right now, most banks would not want to do that loan because of the overall economic conditions and the volatility in the real estate market. How are the overall economic conditions affecting your business?
Patrick Scott is a commercial loan officer and is Vice President for the Carthage, Mo., market with Arvest Bank.
