When it comes to borrowing, consumers should know that there are multiple factors involved in lender calculations that lead to a final decision. In fact, each lender uses its own proprietary criteria, with a variety of factors carrying different weight, all entering into the final equation.
“There are some universal elements that are pretty straight forward, but there are also less obvious factors that are considered by a lender,” explains Carl Lamoureux, Senior Manager, Credit Risk at National Bank of Canada. “For instance, someone who has depth in their credit experience and has demonstrated an ability to properly manage that credit will be viewed with less risk than someone without that history.”
Behaviours that can influence lenders when it comes to reviewing your credit history can include:
Contrary to what many consumers might think, having TOO MUCH credit can also have a negative effect on your borrowing capacity, even if you don’t use that available credit. For instance, someone with an open credit line of $100,000 and a zero balance will still raise a red flag with lenders, who will factor in interest and amortization on the unused credit to the tune of somewhere around 3%.
There are also different levels of due diligence involved when it comes to lender assessments of a consumer’s borrowing capacity. For instance, when applying for a credit card online, a decision is often made within seconds. Such determinations are generally based on general credit bureau scores, without lenders digging too deeply into an individual’s behavioural patterns.
However, when it comes to bigger commitments, such as a mortgage loan, industry guidelines typically set a Total Debt Servicing (TDS) ratio of 40% as a limit. A TDS ratio is determined by factoring in a potential borrower’s total monthly obligations, including all debts (car loans, credit card balances, lines of credit, etc.), as well as housing costs such as electricity, heating, insurance, property taxes, condo fees, taxes, etc. The amount is then divided by the potential borrower’s gross monthly income. The result is what’s known as your Total Debt Service (TDS) ratio.
While the industry threshold typically caps risk at a TDS of approximately 40%, there is also some room for mitigating higher risk through other factors, such as collateral assets.
When consumers exceed their borrowing capacity, it can result in refusal of any further credit. From a lender’s perspective, exceeding the standard TDS threshold can lead to a consumer being put on a watch list, where any form of delinquency can lead to actions aimed at mitigating potential lender losses.
While complicated at times to accurately assess, your borrowing capacity is something that should be carefully monitored on a regular basis. If you are looking for quick and efficient way to assess your current borrowing capacity for a mortgage loan, this TDS calculator from National Bank may be just the tool you need!
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