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4 things to consider for optimizing interest rates
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At some point along the way we all apply for credit. How can one be certain they are in the right condition to optimize the credit experience? Optimization in this case means getting the best rate of interest available, here is how. - photo by Larry Friis
Recently, some friends were perplexed because they thought their credit was in good shape, yet they ended up paying a higher interest rate on their car loan. They did not fully prepare themselves for the credit process by looking at the influences that affected their credit report.

If you think through the credit investigation process, there are many things a credit grantor evaluates: demographics, income, stability, debt-to-income or leverage, asset accumulation, debts, including contingent liability (co-signing for someone elses loan), insurances, a will, and who could forget the credit report.

Here are a few things my friends should have considered with their credit and financial condition:

Liquidity

A credit grantor will look at personal liquidity, which means that you should have savings. A liquidity position shows your discipline with money through savings and other assets that can be quickly turned into cash or assets such as stocks, certificates of deposit or treasury notes. Liquidity is important, and I will explain why.

At a financial institution where I sit on the board of directors, the board was faced with a credit decision that presented a high loan-to-value ratio (LTV) on a collateral building being purchased. The LTV was at the top of the acceptable scale and discussed at length. It was pointed out that the liquidity of the borrower was such that the building could be purchased with cash, so the risk was not as high as contemplated with respect to the building. In this case, the liquidity of the borrower provided strength and reassurance to the credit grantor that there was low risk. In like manner, retail credit grantors will evaluate liquidity with the same eye.

Debt-to-income ratio

A credit grantor wants to feel comfortable in that fact that they will be repaid and that there is low risk for default they're just hoping for a high probability of repayment.

To ensure repayment, a credit grantor will look at your income compared to their debt. This is called a debt-to-income ratio. For every dollar earned, the grantor wants to know how much is taken up in debt. A strong debt-to-income ratio is 50 percent or less.

As an example, in order to qualify for a mortgage, the mortgage payment cannot be more than 34 percent of your income, and typically, all debt, including the mortgage payment, is not to exceed 44 percent. Other credit grantors such as credit card providers and car lenders have different tolerance levels, and this is why 50 percent or less is the guideline.

Demographic or personal information

Demographic information is also known as personal information and answers to questions like "How long have you lived in your current place of residence?" or "How long have you been with your current employer?" These questions are asked to determine financial stability and stability concerning your ability to maintain a job and to be consistent in employment and in living arrangements.

With living arrangements, rent or mortgage payments are tracked and reflected on a credit report. If you pay a mortgage or rent as contracted, then you are very likely to treat new credit with the same discipline. This reflects well and contributes to low risk on the part of the creditor.

Liabilities

As has been pointed out, keeping liabilities at a minimum is important for leverage purposes. The one key about liabilities is not to enter into a contingent liability contract. Any obligation that ties you to another performance is a risk frowned upon by a credit grantor. Oftentimes, you will be asked to co-sign for a car or a credit card. This is not a good credit decision. We all feel the need at times to help children or other family members, but this is where the biggest impacts on co-signers adversely affect your credit. So keep your liabilities at a minimum to maximize credit advantages and avoid being a co-signer.

My friends, as well as others, can change the rate of interest paid when applying these tips to regular discipline concerning personal finance management. These suggestions will keep your credit score closer to the top of the scale and will help you optimize interest rate options in all of your credit decisions.
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