Overview

Lenders measure loan repayment risk to decide whether to approve an application, how to price the loan (interest rate and fees), and what terms or protections to require (collateral, covenants, or reserves). In my 15 years in financial services I’ve seen underwriting move from checklist-based decisions to models that blend credit scores with cash-flow analytics and alternative data.

Below are the primary factors underwriters use, why they matter, how lenders measure them, and practical steps borrowers can take to improve their profile.

Core factors lenders evaluate

  • Credit score and credit history

  • Why it matters: A credit score (FICO or VantageScore) is a quick proxy for past repayment behavior and likelihood of default. Lenders use scores to set pricing tiers and to automate approvals for many retail products.

  • How it’s measured: Scores range roughly from 300–850 (FICO). Many lenders treat a 670–739 score as “good” and 740+ as “very good” or better; specific cutoffs vary by product and lender (mortgages often have stricter overlays than personal loans). See FICO’s explanation of score bands (https://www.myfico.com/credit-education/credit-scores/what-is-a-credit-score).

  • How borrowers can act: Check your credit reports annually at annualcreditreport.com and dispute inaccuracies. Pay on time and reduce revolving utilization. For misconceptions about what hurts (or doesn’t hurt) your score, review our guide on Credit Score Myths.

  • Income, employment stability and documentation

  • Why it matters: Reliable income reduces the probability a borrower will miss payments. For salaried borrowers lenders prefer at least two years of stable employment, but underwriters may accept recent job changes with steady or higher pay.

  • For self-employed borrowers: lenders focus on documented cash flow and tax returns; some require more reserves or a history of consistent earnings.

  • Debt-to-income (DTI) and underwriting ratios

  • Why it matters: DTI compares recurring monthly debt obligations to gross monthly income and signals whether a borrower has room to take on new payments.

  • Common benchmarks: A general rule many lenders use is a DTI below 36% (with housing-related loans sometimes allowing higher DTI under manual underwriting or compensating factors). Mortgage program limits differ—refer to program guides for exact thresholds (see Fannie Mae selling guide and program rules).

  • Business loans use different measures: Debt Service Coverage Ratio (DSCR) compares cash flow available for debt service to required debt payments; lenders often want DSCR >1.2–1.25 for commercial loans.

  • Further reading: see our article on debt consolidation strategies for ways to lower effective DTI.

  • Collateral, loan-to-value (LTV) and asset quality

  • Why it matters: Secured loans reduce lender loss severity because collateral can be recovered or sold in default. Lower LTVs (smaller loan relative to asset value) generally reduce risk and lead to better pricing.

  • How lenders verify: Appraisals, title reports, and audits for business assets.

  • Reserves, liquidity and cash buffers

  • Why it matters: Lenders value borrowers who have several months of mortgage or loan payments in liquid reserves; this lowers the chance a short-term income disruption causes default.

  • Typical expectations: Many mortgage underwriters like to see 2–6 months of reserves depending on loan size and borrower profile.

  • Payment patterns and recent delinquencies

  • Why it matters: Recent late payments and collections increase perceived risk more than older infractions. Lenders review 24–36 month histories closely.

  • Public records, judgments and bankruptcy history

  • Why it matters: Public liens, tax levies, or a recent bankruptcy materially increase risk and often require seasoning periods before approval.

  • Character, industry/occupation risk and soft data

  • Why it matters: For small-business lending and some consumer underwriting, lenders consider the borrower’s industry stability, business plan quality, and management experience. Character-based underwriting can be important when traditional credit metrics are thin (see our piece on character-based underwriting when credit history isn’t enough).

  • Alternative data and technology-driven signals

  • Why it matters: Fintech lenders increasingly use bank account cash-flow, payment app histories, and other nontraditional signals to underwrite thin-file or gig-economy borrowers. These models can approve otherwise ineligible applicants but may also vary widely in explainability and regulation.

How lenders combine factors: scorecards and overlays

Most lenders use a two-layer approach: (1) automated scorecards or models that weight credit score, DTI, LTV, and other variables, and (2) manual underwriter review when an application is flagged or when compensating factors are present. Large banks and mortgage investors (Fannie Mae, Freddie Mac) publish program rules and overlays that shape underwriting decisions for conventional loans.

Risk-based pricing is common: higher measured risk leads to higher interest rates, additional fees, or requirements like co-signers and collateral.

Real-world underwriting examples (anonymized)

  • Case A: Borrower with 740 FICO, 25% DTI, two years of pay stubs and $20,000 in reserves. Outcome: Approved for competitive mortgage pricing with 80–90% LTV depending on program.
  • Case B: Borrower with 620 FICO, 42% DTI, and recent medical collections. Outcome: Either denied or offered a smaller unsecured loan at a higher interest rate, or required to bring a co-signer.
  • Case C (small business): Startup with irregular revenues but strong projected contracts. Lender asked for personal guarantees, higher rate, and a 12–24 month revenue covenant.

These examples reflect typical trade-offs: lenders manage default probability and recovery by blending price, term, and protections.

Actions borrowers can take to improve approval odds

  1. Check and fix credit reports: Dispute errors, correct identity issues, and remove duplicate tradelines. (AnnualCreditReport.com and CFPB guidance.)
  2. Reduce revolving balances: Lower utilization to under 30% where possible; target lower for prime pricing.
  3. Lower DTI: Pay down debts or increase verified income; consider targeted debt consolidation to reduce monthly obligations—see our guide on Debt Consolidation Strategies for tactics.
  4. Build reserves: Save 2–6 months of essential payments in an accessible account; document the origin of funds for lenders.
  5. Improve documentation: Self-employed borrowers should prepare 24–36 months of tax returns, profit-and-loss statements, and bank statements.
  6. Consider a co-signer or secured loan: Adding credit enhancement can bridge short-term gaps in credit or income.
  7. Shop smartly: Rate-shopping within a short window minimizes multiple-inquiry effects on credit scores (see CFPB guidance on credit shopping).

Common misconceptions

  • “A job change always hurts your application.” Not necessarily. Lenders look for consistent or increasing income; a well-documented promotion or lateral move with steady earnings is often acceptable.
  • “Only credit score matters.” Score is important but not the whole story. DTI, reserves, collateral, and recent payment history can outweigh a single score in manual underwrites.
  • “Paying off a loan always raises your score immediately.” It helps over time, but other factors (length of credit history, credit mix) also influence scores.

When underwriting differs by product

  • Mortgages: Strict LTV and DTI rules, with program-specific seasoning for bankruptcies and foreclosures (refer to Fannie Mae and FHA program rules).
  • Auto loans: Shorter terms, focus on employment and recent delinquencies; often more tolerant of lower scores with a higher down payment.
  • Small-business loans: Emphasis on cash flow, DSCR, personal guarantees, and business credit profiles.

Regulatory and consumer protections

Lenders must follow fair-lending laws and provide adverse action notices if they deny credit or take negative steps based on consumer reports. For general consumer guidance see the Consumer Financial Protection Bureau (CFPB) (https://www.consumerfinance.gov/consumer-tools/credit-reports-and-scores/).

Quick checklist to prepare before applying

  • Pull and review your credit reports and scores.
  • Gather pay stubs, W-2s, or tax returns (self-employed).
  • Calculate your DTI and run a mock affordability check.
  • Collect documentation for large deposits or asset sources.
  • Plan for reserves and note any compensating factors (e.g., strong savings, low LTV).

Further reading (internal resources)

Sources and authoritative guidance

Professional disclaimer: This article is educational and not personal financial advice. Underwriting rules vary by lender, loan product, and changes in policy. Consult a qualified loan officer, mortgage broker, or certified financial planner for guidance tailored to your situation.