What Is Creditworthiness?

What Is Creditworthiness? article image.

Creditworthiness is a lender's willingness to trust you to pay your debts. A borrower deemed creditworthy is one a lender considers willing, able and responsible enough to make loan payments as agreed until a loan is repaid.

Lenders evaluate creditworthiness in a variety of ways, typically by reviewing your past handling of credit and debt, and, in many cases, by assessing your ability to afford the payments required to repay the debt.

What Factors Determine Creditworthiness?

To judge your creditworthiness, lenders look for evidence that you pay your bills and that you have a track record of successfully managing and repaying past debts, including loans and credit card debt. This typically comprises a review of your credit history and an evaluation of your ability to cover your loan payments.

The credit check typically involves one or both of the following:

  • Reviewing your credit report(s): Compiled and maintained by the three national credit bureaus (Experian, TransUnion and Equifax), credit reports list all your outstanding debts as well as any accounts you've paid off or closed in the past 10 years. Monthly payments on those accounts are listed as well, noted as paid on time or paid 30, 60 or 90 days late. If any of your accounts have been sent to collections, those will be noted as well, as will vehicle repossessions, property foreclosures and bankruptcies.
  • Checking your credit score(s): Credit scoring systems such as the FICO® Score and VantageScore® analyze the historical data in your credit report and use it to make a statistical prediction of how likely you are to fail to repay a loan. That prediction is boiled down to a three-digit score, most commonly between 300 and 850 (though other numerical scales are sometimes used), in which a higher score denotes lower risk of loan default. In other words, a higher credit score indicates greater creditworthiness.

The assessment of your ability to pay may involve these steps:

  • Verifying your income and debt: Before they offer you a credit card or loan, lenders may seek assurances that you can afford to pay back the money you wish to borrow. The extent to which a lender investigates this may vary depending on the loan type and amount.
    Some credit card lenders simply ask how much you earn and only seek verification if your credit score falls below a specific threshold they set at their own discretion. For car loans and personal loans, proof of steady income in the form of a pay stub or tax return may be required. In the case of mortgage loans, federal law requires lenders to examine your income level, monthly debt and housing expenses. These are used to calculate your debt-to-income (DTI) ratio, which helps determine the amount of mortgage loan you qualify for.
  • Documenting additional assets or resources: In addition to, or in lieu of, steady income (if you're retired, for instance), lenders may consider savings, real estate holdings, investments and other financial assets that show you have resources you can draw from to repay a loan.

Why Does My Creditworthiness Matter?

Creditworthiness gives you the ability to borrow funds or use credit as needed to pay for items that you cannot, or prefer not to, purchase with cash. Creditworthiness is most useful when financing large purchases, such as a car, college education or home.

Starting early in life to establish credentials that signify creditworthiness can help you gain access to funding for major purchases when you need them. To do so, it's important to work on both the credit history side of the creditworthiness equation and the ability-to-pay side.

The notion of working toward greater income is built in to most people's career goals—but building a strong credit history is less-widely understood. Establishing credit and working toward steady credit score improvements can increase your access to different loan options, and also save you money by enabling you to borrow at competitive loan rates.

Applying a strategy known as risk-based pricing, lenders often use credit scores to help decide the interest rates they charge. On average, it costs lenders more to manage missed payments and unpaid loans among borrowers with lower credit scores than it does to manage accounts for less risky borrowers with high scores. Lenders, therefore, typically charge higher interest rates to borrowers with lower credit scores and offer better borrowing terms to those with higher scores.

Creditworthiness doesn't just benefit you when you need to borrow money. Building a strong credit score can help in dealings with:

  • Landlords, who often run credit checks when deciding whether to rent you an apartment and how large a security deposit you must put down.
  • Auto insurers, which may check your credit score when setting your premiums.
  • Utility companies, which often perform credit checks before letting you open an account or borrow equipment.
  • Prospective employers, which may check your credit as part of a pre-hiring background check.

You can demonstrate (and improve) your creditworthiness by building up your credit scores and maintaining solid credit reports—actions that go hand-in-hand. Habits that lead to healthy credit reports and promote credit score improvements include:

  • Paying your bills on time every month.
  • Avoiding high credit card balances, especially those that exceed 30% of the card's borrowing limit, which can cause drops in credit score.
  • Being careful not to open new credit accounts too frequently, or to borrow funds you don't really need.
  • Managing a variety of loans, including revolving credit accounts (such as credit cards) and installment loans (such as student loans, car loans and personal loans).
  • Enrolling in Experian Boost®ø, which lets you apply your history of utility and cellphone payments toward FICO® Scores based on your Experian credit reports.

Part of building creditworthiness is knowing where your credit stands so you can work to improve it if necessary. Monitoring your credit report and score will give you insight into your credit progress and what lenders see when you apply for a loan or credit card.

Like any other form of trust, creditworthiness can take some effort to earn, and a mistake or poor decision can harm it. It's possible to rebuild damaged creditworthiness over time, but better to nurture and protect it once you've achieved it.