When you're looking for credit, it's worth understanding what potential creditors are looking for when they're looking at you. Traditionally, they're looking for the three C's: capacity, character, and collateral.

Capacity

Potential creditors want to know if you have the wherewithal to repay a debt. To this end, they'll inquire (usually on an application form) about your income information: How much is it? Does it come from wages, commissions, or some other source? Does it come on a regular or seasonal basis?

On the flip side, they'll also want to know about your expenses, especially any debt obligations. In addition, they'll want to know how many dependents you have and whether you're required to pay any child support and/or alimony.

Of particular interest to potential creditors is your debt-to-income ratio. This ratio compares your monthly recurring debt obligations to your monthly gross income. Your recurring obligations include your mortgage or rent, credit card payments, loan payments--including the one you're applying for--and alimony/child support you pay. Your income includes bonuses, commissions, and any other income you receive, such as Social Security, pensions, and alimony/child support.

Note: The debt-to-income ratio is also known as the back-end ratio. A second ratio, called the front-end ratio, compares your rent or total mortgage payment to your gross income, and is used primarily to determine whether you qualify for certain mortgage loans.

Your debt-to-income ratio goes a long way toward determining whether you are granted credit, how much, and at what interest rates. While many other factors affect your capacity to repay a loan, lenders generally consider debt-to-income ratios of 35% or less to be ideal, 36% to 42% to be manageable, 44% to 49% to be risky, and 50% or above to be unacceptable.

Character

Okay, your sweetheart thinks you're the best thing since sliced bread, and your bosom buddy knows you're one in a million. But that's not the sort of character endorsement creditors are looking for. What creditors want to know is, given that you can repay a debt (capacity), will you?

When it comes to your credit character, lenders often look for another C: consistency. Have you bounced around from address to address, or job to job? Doing so makes creditors nervous. Longevity in employment and residency indicate stability, and that's what creditors like to see.

Lenders also firmly believe that your past actions are a good predictor of your future behavior. So, they're looking to see if you've used credit before, and what your repayment track record has been like. To do this, they rely primarily on your credit report and your credit score.

Collateral

Maybe you've proven your capacity to repay a loan and your excellent character, but the lender may want something of value to secure the debt, particularly if the loan is for a large amount and/or a long term. If you default on the loan, the lender would be legally entitled to take possession of that item as a form of compensation. Tangible property used in this fashion is called collateral.

Typical examples of consumer loans that involve collateral arrangements are mortgages and home equity loans (failure to repay the loan can result in foreclosure) and vehicle loans (failure to repay the loan can result in repossession). While seizing property in the event of a loan default may not repay the entire balance due, it would at least mitigate the creditor's loss.

The "can'ts" of credit

There are some things a potential creditor can't do when considering you for credit. A creditor can't use your age, gender, marital status, race, color, religion, or national origin to:

Discourage you from applying for credit
Refuse to grant you credit if you otherwise qualify for it
Make you a loan on terms different from those granted another person with similar income, expenses, credit history, and collateral
Close an existing account

Furthermore, a creditor can't refuse to consider any public income you may receive, such as Social Security, veterans benefits, or welfare benefits.