Why You May Be Denied a Loan and What You Can Do
Have you recently applied for some form of credit like a loan and been declined? Are you unsure why? Here are some common reasons borrowers are unable to qualify for a loan — and tips that you can take to improve your chances of being approved.
At some point in our lives, almost everyone needs to apply for credit, whether it’s a store card, credit card, car loan or even purchase a home. So it can be upsetting if your application is declined — especially if it happens more than once.
Below is detail on the loan process and why lenders may turn down an application - along with tips on how to make your application more appealing.
How lenders evaluate risk
The main reason lenders reject an application is based on the person’s credit profile or risk level. In other words, they think there is a very real possibility that they may not get their money back.
While all lenders have their own criteria to determine credit risk, often the first thing they will do is check your credit history.
Your credit profile is a record of your credit history, detailing any loans you have taken out — including those, you have or have not paid off. Your credit history also reveals whether you have had any defaults or late payments, or if you have ever been bankrupt. All this information will affect the lenders decision.
A lender might also reject your application if you provide wrong or misleading information — for example, if you ignore some of your expenses, or overstate your income or the value of your assets. An unstable work history, could also deter them from lending you money, as could a substantial amount of existing debt.
Your debt to income ratio is another key element of the decision process. Your ability to make repayments after paying all of your other financial obligations is important. Depending on the type of loan, you’re applying for, the lower your debt to income ratio the better.
How to calculate your debt to income ratio:
Assume you pay $700 for rent, $100 for your vehicle and $200 for the rest of your debt each month. Your monthly debt repayments would be $1,000 ($700 + $100 + $200 = $1,000). If you’re monthly pay check is $1,900, your debt-to-income ratio would be 53% ($1,000 / $1,900 = 0.53).
Loans and the law
Understanding your debt to income ratio is important as even the law has protection guidelines to prevent lenders from giving a loan that you are unable to manage. This means your creditor has a legal obligation to refuse you a loan if they think it will cause you significant financial difficulty. This criteria is can be different dependent upon what state you live in.
What you can do before applying
If you are continually being refused credit, don’t quit. There are some actions that you can take to improve your creditworthiness, including:
- Contact a credit rating agency and ask for a free copy of your credit rating. If you discover any errors that are negatively influencing your credit score, you have the right to challenge them and have them removed.
- Check the report for any outstanding or late amounts you owe, and take steps to make these repayments. There may be the possibility that something you though was paid off, wasn’t.
- If you are unable to clear all your outstanding debts, get professional advice on how to negotiate an affordable repayment plan. There are free professional services to assist with debt.
- Calculate your own debt to income ratio, if it is high, take steps to reduce this
- Reduce the amount of creditors you may have
The above are key criteria that lenders look at when considering an application for a loan or credit. If you are unsure if you will qualify for a loan due to a high debt to income ratio or impaired credit, call and discuss with the lender first. Applying for multiple loans in a short period can also affect your credit history negatively.
If you are applying for a loan to pay rent, bills, groceries or other important household needs – there are other financial options available that don’t require a loan. Below are examples on how to get help without borrowing money.
Help with utility bills – If you are having troubles paying your electric, gas or water bills, there is assistance available for this. That does not require a loan.
Help with food – There are different types of food hampers available from numerous non-profits and other social based organizations. Don’t forget about government assistance as well.
Help paying rent – If you are dealing with financial hardship and are worried about rent, there are different options available to help with short and long term rental help.
General help with bills – Most communities have a handful of organizations that are there to help with anything that may be needed for those down on their luck. Churches are a great source of help and open their doors to anyone and everyone.
Small flexible loans – whilst most mainstream lenders have strict approval criteria there are other specialty lenders who are more flexible. Bear in mind that these lenders will be more expensive to borrow from. Be sure to carefully review terms and try to take advantage of other assistance if available.