There’s a vague term called “risk assessment” that most consumers don’t know about. Believe it or not, there are massive firms that specialize in figuring out just how much of a risk you are when you apply for a credit card. They help develop algorithms that credit issuers use to underwrite potential customers. While you won’t know the details of that scoring system, you can learn the elements that give it shape, and it appears as your FICO score.
What’s missing from your credit score
Your FICO score, developed by Fair Isaac Co., consists of five primarily elements: payment history (35%), amount owed (30%), length of credit history (15%), new credit (10%) and type of credit (10%). Its competitor, the VantageScore, uses similar elements in slightly different percentages.
What’s missing? Your income level. That’s because income isn’t really considered as far as your overall credit score. Income is considered, however, when an issuer determines how much credit you’ll get. So you may get approved for a card, but as for how much credit you’ll get … well … that’s where income matters.
Key ratio: Your debt-to-income
The big number issuers focus on is your debt-to-income ratio. If you carry a lot of debt in relation to how much you earn each year, then an issuer is going to restrict how much credit you will be granted. Thus, if you are going to apply for a credit card, it might be best to get that income level up as high as possible, while paying off as much debt as possible. In addition, the CARD Act of 2009 requires lenders to take your “ability to pay” into account, so most applications ask for your monthly payment obligations such as rent, alimony and other debt payments.
If you have a mortgage, that will show up on your credit report, so you’d better be honest. From that mortgage payment alone, they will be able to ballpark your income. They’ll know the bank would only grant you that mortgage if they thought you could repay, and because that mortgage is itself going to be based on a reasonable debt-to-income ratio that the bank has already underwritten.
Your credit history trumps income
Will the issuer verify your income? The truth is that they are unlikely to do so. Sure, they could request pay stubs and employer references, but the exact dollar amount of income isn’t what primarily concerns an issuer.
The reason? Your credit score itself indirectly answers the question for them. If you have a good credit score, have a history of reliable payments, keep your outstanding debt in check, have different types of loans (mortgage, car, personal line of credit), and you report a monthly housing expense that seems to jibe with information from your credit report, your income amount isn’t going to be of much concern. All that other information tells them that you are either a good or a bad overall risk.
Income inspection image via Shutterstock