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How to assess the risks to a loan application

How to assess the risks to a loan application

Assessing/evaluating a loan application is all about weighing the risk to your money. The more you can reduce or eliminate that risk, the better. It all boils down to your confidence in the applicant’s credit worthiness. Assessing a loan application is the process by which you determine if an applicant qualifies for your loan, and the main check mark you want to put against any applicant is their ability and willingness to return your money. It is very key to note that those two terms in bold font are not necessarily the same. The fact that someone has the means to pay their debts doesn’t always mean that they are responsible enough to do it. Credit Reports and Credit Scores are useful tools for weighing in on where an applicant stands when it comes to these two characteristics (ability and willingness to pay).

The decision about whether to approve or decline a loan application should be made on a case-by-case basis. There usually isn’t a one size fits all solution. Fine, you might be able to categorize applicants by certain traits or characteristics, but each person’s circumstances are unique, and you should always put that at the back of your mind when making decisions. Your goal should be to get a clear picture of the applicant’s character, reputation, financial situation and their financial history. In order to get this picture, you will need to consider the following items:

The Applicant’s Financial Information.

You need to gather and evaluate your applicant’s financial information. If you have a tool or platform that simplifies this process, the better for you. This information will enable you to determine if it would be responsible, as well as in your best interest, to lend them money. Their financial information will also help you determine the level of credit it is wise to extend to them. Financial information to consider include:

  • Their employment status.
  • Their employment history. People who seem to be unable to hold on to a job for up to 2 years are considered high risk.
  • Their income. This can help you make a good decision on how much to lend to a Borrower. Someone with a high annual income is more likely to pay back on a relatively large amount of money than someone with a low annual income.
 

The Applicant’s Creditworthiness.

This is determined by their past performance in meeting financial obligations:

  • Are they known for defaulting on loans and other payments? This can include payment on rent, re-payment to friends and family members on small, informal loans, etc.
  • Are they known for always borrowing from everyone around them? This would indicate that they either have very serious financial issues or are bad at managing money and should raise red flags for you.
  • How much debt do they already have?

The best judge of an applicant’s creditworthiness is their credit score and credit report. Check out this post for more detailed information on that.

The Applicant’s Character.

Whether you like it or not, your Applicant’s character becomes your business. If word on the street is that your Applicant is dubious or is known for being shady or dishonest, then you probably have no business lending them money. The more you can find out about them, the safer for you and your money. In this situation, no news is bad news. The less you are able to find out about the Applicant, the higher the risk to you. It doesn’t matter if they are Angel Gabriel in the flesh. If you have no access to the proof that they’ve got wings, you should treat them like they’re Shina Rambo and protect your money. Remember that saying about the devil you know?

The Applicant’s Ability to Repay the Loan.

Do they have some form of collateral or security on the loan? Is there any indication that they will be in a position to repay the loan? For example, are they employed Are they using the loan amount to furnish a business venture? Do they have some form of collateral or security on the loan? Is there any indication that they will be in a position to repay the loan? For example, are they employed?

The Purpose of the Loan.

It makes a whole lot of difference if your Applicant intends to use the loan amount to start a car importing business or send their kids to school than if they are planning a lavish wedding. The intended purpose for the funds they are borrowing should be one of the first questions you should ask during the application process.

References

  1. Credit evaluation and approval. (n.d). Retrieved from here
  2. Irby, L. (2018). What is creditworthiness? Retrieved from here

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