What Is Creditworthiness?

Your credit score only tells part of the story as lenders judge how likely you are to repay debt.

What Is Creditworthiness?

Credit worthiness may determine how potential lenders perceive you. (Getty Images)

Your creditworthiness, or how likely you are to repay a debt, is a major factor in whether you'll be approved for a credit card, an auto loan or a mortgage. It accounts for your debt, your credit history and your ability to pay back loans.

Although each lender has its own creditworthiness definition and different ways of measuring it, the good news is that it's within your control to make yourself more creditworthy.

What Are the Three C's of Credit?

So what does creditworthiness mean from a lender's perspective? It all comes down to having the "three C's of credit – capacity, character and collateral," says Richard L. Ward, certified public accountant and member of the American Institute of CPAs' Financial Literacy Commission. Here's how it breaks down:

  • Capacity: This refers to how much debt is in your name and if you can reasonably handle more. Lenders want to feel confident that you'll be able to pay your bills and meet your obligations. One of the main ways they evaluate your capacity is by looking at your debt-to-income ratio, which is the percentage of your income that goes toward paying your monthly debt.
  • Character: Creditors don't necessarily care if you're a nice guy – this is more about your past financial behavior and if you've been responsible with making payments. Have you been delinquent? Are you in collections with past accounts? Do you routinely make late payments?
  • Collateral: The last component (sometimes also called capital) refers to your ability to back up any debt you're taking on. Some debt is secured, meaning that if the lender doesn't get paid, it has the right to your assets. But even with unsecured debt, the lender may want to get a look at your bank statements or see a list of your assets so it knows you have access to liquid cash in case you lose income.

Why Is Creditworthiness Important?

It's true that people with poor credit or limited credit history can find loans and credit cards, but those options are limited. "Creditworthiness ultimately gives you more options and flexibility," Ward says.

Being creditworthy is a must for some landlords, utilities and insurance carriers, which will check your credit report before doing business with you.

Having good credit puts you in a better position of control. The less creditworthy you are, the more likely you could be stuck with less-than-ideal terms and interest rates or resort to potentially predatory lenders, says Jeff Richardson, spokesperson for VantageScore Solutions, developer of the credit-scoring model.

"You never want to be in a position when you have to use a lender of last resort," Richardson says. "You want to be in control. You want lenders to be selling to you – you don't want to be selling yourself to lenders."

From the lender's point of view, evaluating your creditworthiness is all about hedging against risk.

Ward explains, "It's important to them because it's a risk they're taking on in terms of lending. They want to make sure they're going to get their money back. As a business, they're not going to take on unnecessary risk."

What Factors Determine Creditworthiness?

Processes and measures for determining creditworthiness will likely differ from lender to lender, but credit score often plays a major role, says Richardson. "Your credit history is encapsulated in your credit score," he says. But lenders all have their own models to determine whether a consumer is going to get a loan and at what interest rate, he adds. Lenders also weigh other factors, such as your income, the size of your down payment and your assets.

Once your level of creditworthiness is determined, lenders will present an offer based on your status. A score in the very good to excellent credit range will generally qualify you for the best loan terms and conditions.

How Can You Check Your Creditworthiness?

Many free tools can help you understand credit and how different behaviors might affect your creditworthiness.

  • Get informed. Head to CreditScoreQuiz.org, developed by VantageScore and the Consumer Federation of America, to test your knowledge and sort out fact from fiction. 
  • Check your credit report. You are normally entitled to a free credit report from each of the credit bureaus (Experian, Equifax, and TransUnion) once per year via annualcreditreport.com. And as a result of the COVID-19 pandemic, you can get weekly free reports until the end of 2022. Your credit report is a breakdown of all of your financial accounts, your payment history and your current standing.
  • Monitor your credit score. Many financial institutions like banks and credit issuers allow you to see your credit score for free. Take advantage of that service and keep watch for any sudden changes – or watch it rise as you build and improve your credit over time.
  • Sign up for a free credit monitoring service. One example is Capital One's CreditWise, which is available whether or not you have a Capital One card. It also features a credit score simulator to show you how certain choices could affect your score. This could help you see the effect of paying off debt or applying for a new line of credit.

How to Improve Your Creditworthiness

If you are planning to apply for a new line of credit soon, improving your creditworthiness is a smart move. For one thing, it will boost your chances of approval, but it can also mean access to better interest rates, which can save you money.

Becoming more creditworthy isn't difficult, but it does take a bit of time and effort. Here are the key actions you can take to boost your credit score and, in turn, your overall credit health:

  • Clean up your credit. You can quickly improve your credit score by focusing on the factors that matter most. That means paying down balances, paying off collection accounts, fixing errors and building a positive credit history.
  • Maintain a steady income. Lenders want to see that you've had regular work for the past couple of years, whether that's a full-time job or another source of income that's unlikely to change. In the gig economy, where many people freelance in lieu of traditional full-time employment, keep in mind that you may have to shop around for a lender that understands your situation. "If you're not a W-2 wage earner, it may be challenging to apply for a mortgage," says Richardson, adding that banks may want to see two years of financial statements for reassurance that you have a steady income. 
  • Shop around. If a lender doesn't present an offer that you think matches your creditworthiness, explore other avenues, Ward says. A smaller institution, such as a credit union, may be more willing to take you on. The same idea applies anytime you have a relationship with a particular institution. That relationship can boost your creditworthiness.

Even if you're not in the market for new credit, creditworthiness is something to strive for to keep your finances in good health. By improving your creditworthiness, lenders will have to compete for your business with the best products and terms that can save you money. And that's a great position to be in.

Updated on May 5, 2022: The story was previously published at an earlier date and has been updated with new information.

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