In this guide:
Having a loan application declined is not the end of the world. But it does mean time wasted on the application and missing out on the purchase the loan was intended for.
Most importantly, it can also damage your credit score.
I’ve worked with dozens of Australian lenders. I know what they like and what they really don’t like. Let’s take a look.
All finance approvals are based on risk. Understanding how lenders assess risk in your loan application can be the difference between your loan being approved or declined.
It can also determine how much you’re able to borrow and what interest rate you get.
Lenders use advanced financial technology to assess loan applicants. You can’t fake being low risk.
But you can take steps to improve your application before submitting it to a lender. You should also understand when not to apply.
Lenders assess loan applications against their 'knockout rules'. Basically these are the factors that will cause your application to be declined straight away.
These are standard knockouts rules for most lenders:
Each lender will also have its own unique knockout rules, which can include:
If your loan application passes this initial stage, the lender will begin to assess the details of your application.
Lenders will then look at your intended use of the funds.
For example, if you intend to use the money to buy an asset (like a car), this is a lot less risky than using it to pay bills or outstanding debts.
There are two main reasons for this:
If you’re approved for the loan, the purpose of the funds can also impact the interest rate and the amount you can borrow.
According to personal loan statistics compiled by Money.com.au based on real loan request data, home improvement loans (11.47% p.a.) attract the lowest average interest rate, while loans taken out for the purpose of investing (19.77% p.a.) have the highest rates, on average.
Serviceability is the term lenders use to describe your ability to afford the repayments on the loan, both currently and over the entire duration of the loan.
A lot of loan applicants misunderstand how this is determined. It’s not just based on your income.
Essentially, your ability to service a loan will come down to these main factors:
Let’s consider two example borrowers to illustrate how serviceability works:
Now let’s look closer at what separates John and Jane, and their ability to service the loan in the eyes of lenders.
We can summarise what lenders look at when assessing loan applicants through the 5 Cs of risk.
Many lenders use these exact steps when filtering applications.
Collateral is any valuable asset you can offer as security on the loan.
If you can’t repay your loan, your lender can take ownership of the asset to sell and reclaim their losses.
Even if you’re capable of repaying the loan amount comfortably, offering security can be one of the simplest ways to reduce the interest rate on your personal loan.
Capital is your personal assets and their value. This can be money in a savings account, shares, any other valuable belongings you could sell to help repay the loan if you lost your income.
Character refers to factors like your personal spending, how you manage your money and your credit rating.
Lenders get most of their insights into your character from your credit score and bank statements.
For example, a borrower who regularly withdraws all of their salary on the day they are paid may appear to a lender to be financially unstable and riskier as a result.
For bad credit loans, lenders will do an even deeper dive into your credit history.
Capacity broadly covers your ability to repay the loan amount.
Quite simply, this is whether your income (after your other expenses are taken out) is high enough to cover the repayments for your loan amount over the term you’re applying for.
Conditions refers to anything else relevant relating to the loan, your situation and even wider economic conditions.
The lender isn’t going to take your word for the fact that you’re financially fit as a fiddle.
You’ll be asked to provide supporting documents to support your loan application.
This could include:
If you can’t provide the standard documents, you may need to consider a low doc personal loan.
Lenders lok closely at bank statements for a snapshot of your financial health.
They’ll look at things like:
By now you should have a good idea of what lenders look for when assessing loan applications.
But if you want to be able to see at a glance which lenders you qualify for and at what interest rates they offer you based on your circumstances, you can try Money Matchmaker®.
It’s a free tool that asks you some simple questions, then shows you loan offers from lenders you match with. There’s no obligation and checking your rates does not affect your credit score.