The 3 C's of Credit: Character, Capital, and Capacity

Posted by Shaun Morgan in CreditNovember 29, 2022(Last Updated November 29, 2022)5 min read
Key Takeaways
  • Credit is an integral part of your financial health. Banks and lenders are more likely to approve your application if you have good credit.
  • A good credit score can allow you to get better interest rates and loans.
  • The three C’s of good credit are character, capital, and capacity.
Are you ready to make some real money moves?

Imagine that you walk into a bank to get a loan. You fill out the application, hand in a mountain of documents the banker asked for, and then wait. The banker looks over the documents and tells you your application has been denied.


Naturally, you want to know why. Almost always, you are denied because you don’t meet the lender’s standards of creditworthiness. Three things determine your creditworthiness called the three C’s of credit: Character, Capital, and Capacity.


Three C's of Credit




People with good character are ethically and morally upright. Those with good character always do right by others and are true to themselves in every situation. This is why many lenders and banks look at a person’s character to determine how likely they are to repay a loan. Creditors look at your reputation and reliability on previous loans.


Creditors might ask the following questions to decide whether or not they should loan you money. 


  • Do you pay bills on time?
  • Do you have a strong credit history?
  • How long have you had credit?
  • How long have you kept your job?
  • How long have you lived at your current address?
  • How good is your credit score?


If you have struggled to pay your bills in the past, have a low credit score, or don’t have a steady current salary, that might be the reason you were denied.


Your credit score is one of the biggest parts of this. While your credit score tries to give a full picture of your creditworthiness, it leans heavily toward character. According to the Fair Isaac Company, the creator of the FICO score, 35% of your credit score is determined by your credit history or whether or not you pay bills on time. An additional 15% is determined by the length of your credit history or how long you’ve been using credit. In other words, 50% of your credit score is directly related to your character. 


Recommended Reading: 3 Ways to Build and Improve Your Credit Score


Capital (or Collateral)


Your capital is a question of how many valuable assets you have backing up your loan. This is also known as collateral. Capital can be an asset that you own. This includes money in savings, investments such as stocks, or hard assets like real estate or gold.


Example of Collateral


The most basic example of collateral is your home when you get a mortgage. Most people would never qualify for a $300,000 loan based only on their income or credit history. Banks can consider more people for these loans because the house is backing the mortgage as collateral. They can foreclose and sell the house to recoup their losses if you don't pay your mortgage. 


Collateral or capital also applies when getting other kinds of loans. If you are getting a $10,000 loan and the only asset you have is $100 in the bank, you only have 1% of the total value of the loan in capital. That isn’t very appealing to the bank because if things go wrong, you can’t pay back the loan. But if you have a $50,000 stock portfolio, the bank can feel more comfortable lending to you because if push came to shove, you could sell some of your stock portfolio to pay the loan instead of defaulting.


Man signing a loan with a bank


When it comes to capital, the bank only asks one question:


  • What is the total value of your assets compared to the loan amount?




Your capacity is a measure of how much debt you can repay. This is a balance between your expected expenses, your current debt repayment, and your current salary. Lenders often refer to this as your “Debt to Income Ratio.” Generally speaking, lenders like to see that the amount you must pay on your debt each month (called debt servicing) is under 30% of your total income.


Your credit score is also part of how much you owe compared to how much you make. How far over or under capacity you are can make up about 30% of your score. The other two parts of your score (credit mix is 10% and new credit is 10%) can’t be pigeonholed into any one of the 3 Cs, but they help lenders project your character and capacity based on statistics.


While it can be annoying to be denied a loan that you need, if you’ve been denied because of capacity, be grateful. This means you are less likely to get into trouble with your debts because you don't have that loan. On the other hand, it is time to review your debts and take steps to reduce your debt load since being at capacity is dangerous for your financial well-being.


Woman thinking about her credit score


To determine your capacity, lenders will ask you questions such as:


  • What is your current salary?
  • What are your recurring monthly expenses?
  • What are the minimum payments on all your debts (including credit cards, personal loans, student loans, and any other debt you hold)?
  • How many dependents do you have?


Recommended Reading: Tips on How to Improve Your Credit Score


The Money Wrap-Up


The three C’s of credit, character, capital, and capacity, are used by lenders to determine your reliability, honesty, and creditworthiness. But they are also a good financial wellness checkup for yourself.


To determine your character, ask yourself: Do I have good financial character? Do I pay my bills on time? Do I keep a steady stream of income?


To determine your capital, sit down and review your bank statements, investment statements, credit card statements, and other loan statements, and calculate your net worth. Your net worth measures how much you own minus how much you owe. You are in a good capital position if you have a positive net worth. If not, debt payoff needs to be a priority. 


Note that your home equity usually offsets a mortgage, so when determining your net worth for creditworthiness, many financial experts ignore both the outstanding balance on the mortgage and the equity.


To determine your capacity, calculate how much you spend on debt each month. This will include minimum payments on credit cards and other loans like student debt, mortgage or rent, and any other payment obligations you have, not including regular expenses like utilities or groceries. Then divide that number by your income. For example, if you owe $1,000 a month in minimum payments and make $4,000 a month, you divide 1,000 by 4,000 to get .25 which means you are at 25% capacity.


By asking yourself these questions and doing the calculations, you will better understand the steps you need to take to become more financially stable and responsible.

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