A lender’s guide to understanding risk assessment

Although lending has gone digital, offering both convenience and speed, it still hasn’t wiped out all the risks. With the move online comes unique challenges. Without proper risk assessment, you’re open to a slew of potential problems, like losing money, facing fines, damaging your rep, missing growth chances, falling prey to fraudsters, and even cyberattacks.

So, how do you dodge these bullets and make smart moves as a digital lender? Let’s dive in:

Understanding risk assessment in digital lending 

The aim is to spot, gauge, and minimize risks that could harm your financial interests and the smooth running of your lending platform. Assessing risks helps you decide who to lend to, how much, and on what terms. Ultimately, a good risk assessment leads to three clear benefits:

• Financial stability: allows you to lend responsibly to creditworthy borrowers and make data-informed interest rates and credit limit decisions. The cherry on top is that you have access to different risk profiles and can anticipate market downturns to help diversify your portfolio.
• Earning borrower’s trust: The lending business is firmly built on trust. You can secure your borrower’s trust through clear lending criteria. Offer personalized loan products with terms and rates that match individual needs and risk profiles.
• Regulatory compliance: ensures that you comply with fair lending practices, avoid fines and reputational damage, and attract investors like flies to a honeypot.

Featured read: Are lenders evil for charging high interest rates?

What are the common risks involved in digital lending?

Although we can all agree that digital lending offers a faster and smoother way to access credit, it’s not without risks. Let’s examine the common risks faced by digital lenders.

Credit risks

This refers to the likelihood that a borrower will fail to repay their debt per the agreed terms. You can identify high-risk and low-risk borrowers with information on the applicant’s character, capital, payment histories, debt-to-income ratio, and more.

Operational risks

Moving the traditionally manual lending processes to an online platform wasn’t the ultimate holy grail. Without proper risk assessment, your lending platform is still vulnerable to security breaches, data loss, malfunction, or even human error.

Compliance/regulation risk

These risks have caught the eye of Nigerian regulators. You could be fined up to 10 million naira for not protecting customer data as required by the National Information Technology Development Agency (now known as the Nigerian Data Protection Bureau). Additionally, the Federal Competition and Consumer Protection Commission (FCCPC) and other state agencies have formed a task force to probe human rights violations in digital lending. These investigations have resulted in physical raids on the premises of implicated digital lenders. As such, the FCCPC issued the Limited Interim Regulatory/Registration Framework and Guidelines for Digital Lending in August 2022, outlining requirements for approval and registration to operate in Nigeria’s digital lending sector.

Market risk

Fluctuations in the economy could become roadblocks for digital lenders. For example, economic changes could affect borrowers’ ability to keep a job, thus increasingly creating high-risk borrowers who struggle to pay their bills.

Fraud risk

Going digital didn’t just open a new path of convenience for lenders; it also allowed fraudsters to be more creative. Thanks to technology, applications under false identities with false documents are much easier now. Without assessing those risks, you and your borrowers are incredibly vulnerable.

Consumer risk

Like it or not, you must be concerned about your borrower’s interest. They share private details like BVNs, pictures, account details, and more for online loan applications. Not protecting their privacy could lead to a breakdown of trust and, ultimately, your business.

Key components of a risk assessment framework

Risk management policies: These policies should outline and guide your overall approach to risk management, including your lending criteria, how often you check for bugs, and what regulations to consider. Don’t put all your eggs in one basket, either. Spread your loans across different industries, borrower segments, and loan products to lessen concentration risk.

Data collection process for borrower assessment: Data is the cornerstone of the digital lending process. Your business is subject to the mercy of accurate borrower information. Cast a wide net, gathering borrower information from multiple credit bureaus, including traditional credit reports, alternative data like social media activity, and behavioral patterns such as gambling, atm withdrawals, etc.

Analytical and automation tools: As paperwork is to traditional lending, analytical tools are necessary to improve your loan platform processes and collect data that can help predict risks and prevent fraud. Risk automation tools like Lendsqr’s direct debit feature guarantee your loan recovery instead of relying on luck.

Continuous monitoring: Don’t set it and forget it! Remain vigilant, constantly monitoring emerging risks and adapting your strategies accordingly.

And so in all your doing…

Never see risk assessment as a burden. As a digital lender, you can’t do without regulation policies, and using data collection, analysis, and automation tools. Neither can you do without continuously monitoring and guarding the integrity of your loan business.

So, are you ready to join our ranks of smart digital lenders? Send us a message at [email protected].