What are the five C’s of credit?
When a lender is looking to give a new loan to a small business, in order to determine the eligibility of the borrower, the lender utilizes something called the 5 C's of credit. Below is a breakdown of those 5 C's. There is no particular order because they all play an important part in the loan process.
The first "C" :Character
Character is by far the most critical matter in any deal. The way to answer this is by multiple interviews with your lender. They will discuss your past business history, businesses, and possibly family. By getting to know you, your lender can learn more about what makes you and your company worth lending to.
The second "C" :Capacity
Capacity is the ability to repay loans, known as cash flow. The measurement of this is how much cash the business generates during normal operating activities. Capacity is where your credit score is evaluated. Having a good personal credit report, as well as, the business credit score will weigh heavily in this category.
The third "C" :Capital
Capital is the amount of money that the owner has personally invested in the business. Banks are much more willing to lend to a company that has money already injected into it. Capital is also considered "skin in the game." More than 60% of small businesses utilize personal funds to start their businesses. Banks like to know that the business owner has as much faith and private investment in the company as the bank is going to have.
The fourth "C" :Conditions
Conditions are the way that the business owner will use the funds. The idea is that the loan could be affected by economic conditions. Things that could change the terms would be tariffs, interest rates, financial forecasts, and the overall health of the economy. These conditions are out of the control of the company owner because they are external and are hard to plan for accordingly.
The fifth "C" :Collateral
Collateral is what will secure the loan in the event the business owner stops paying. Equipment, cash, stocks, and real estate are all assets that can guarantee a loan. Individual loans can also unsecured in certain circumstances which means there is no physical collateral. Each lender will have specific criteria that they need to follow for their underwriting guidelines. The amount of collateral and what you will need to pledge will be determined by the other c's of credit.
All of the above factors play a part in the credit decision process. Some, such as collateral, are farther on the required list if there is a stronger category such as capacity. An excellent way to determine your financial outlook is to evaluate your own personal 5 c's. If there are issues you see maybe you can address them before you talk to your lender.
Thank you for taking the time to read my blogs. I am in no way a subject expert, and these are my opinions. I welcome any thoughts and discussion.
Thank you for taking the time to read my blogs. I am in no way a subject expert, and these are my opinions. I welcome any thoughts and discussion.
