Creditworthiness has to do with the ability of a borrower to pay current debt in a timely manner. Within the context of the ability, several basic factors come into play. An evaluation of the creditworthiness of a borrower involves identifying the presence of resources that may be used to repay debts, the willingness of the debtor to use those resources for repaying debt, and a history of choosing to repay debt obligations in a timely manner.
When creditors choose to extend credit to an individual or business, that extension of credit is based on the understanding that the borrower will have resources that can be used to repay the debt. The resources are normally thought of in terms of some type of cash flow. The cash flow may be from income earned from a job, or income that is received in exchange for goods and services provided to clients. Even a cash flow that results from regularly scheduled disbursements from a trust or interest income payments may be considered a verifiable type of cash flow.
Once it is established that the borrower has a flow or resources that can be used to honor the debt, it is necessary to determine if there is a willingness to follow through and actually make the payments. This is where the past credit history of the individual or business becomes important. When the borrower has a history of paying outstanding debt within terms, this is a strong sign of past creditworthiness. Using past history as an indicator, a creditor can reasonably assume the borrower will demonstrate a similar pattern in the future.
Creditors will also look at the current amount of indebtedness that the individual is carrying. By comparing the ratio between current debt and income, it is possible to determine if the borrower can reasonably handle another obligation without significantly increasing the risk of default. This element of the evaluation process is in the best interests of the borrower, as it helps to prevent establishing an obligation that could have a negative impact on overall creditworthiness.
Proper management of available resources goes a long way toward establishing and maintaining creditworthiness. By keeping debts in line with available income and paying off the debts in a timely manner, the credit rating of the individual will be healthy and attractive to prospective creditors.