Loan underwriting: Meaning, process and checklist

You may have heard the terminology ‘underwriting’ or ‘underwriters’ several times, especially during the loan process. However, do you know the meaning of underwriting? This article explains, loan underwriting meaning, loan underwriting process, and so on.

Let’s begin with the meaning of loan underwriting.

What is loan underwriting?

Underwriting is a crucial part of any loan approval process. In simple terms, underwriting is a process of gauging the creditworthiness of the applicant. Underwriter, meaning the one who undertakes the process of underwriting, assesses the creditworthiness of the applicant.

So, when the status of the business loan is mentioned as ‘loan referred to underwriters’, it means that your eligibility criteria for the business loan and creditworthiness are being scrutinised by the lending institutes.

In other words, approval of your business loan application depends on the underwriting process.

Underwriting is also done if the company is raising funds through BSE or NSE IPO or for insurance purposes. Although the documentation may vary, however the purpose of the underwriting process remains the same of mitigating risk.

Why underwriting is important?

• Protecting lender’s interest: Assessing creditworthiness with the help of submitted documents is beneficial for the lender as well as the borrower. It helps lenders to avoid situations such as loan default.
• Protecting borrower’s interest: On the other hand, borrowers can avoid obtaining more loan amounts than their eligibility. Higher loan may lead to higher EMI and Higher EMI may lead to financial stress on the borrower. Financial stress later results in loan restructuring.

Loan officer vs underwriter

Underwriters can easily be confused with loan officers. However, these two are separate professionals that are involved in the loan application and approval process. Here is the difference between a loan officer and an underwriter:

Loan officer	Underwriter
The loan officer gathers financial information from the applicant	The underwriter analyses the gathered financial information
The loan officer is aware of various loan schemes and the best possible interest rate	The underwriter grants the loan
The loan officer is responsible for all the communication with the borrower	The underwriter may or may not communicate with the borrower.

Loan underwriting criteria

So, how do loan underwriters gauge the applicant’s creditworthiness? Here are what influences the underwriter’s decision of loan granting:

Credit score

Credit score or CIBIL score is one of the important parameters to gauge your creditworthiness. Businesses/individuals having higher credit score meaning a score of 750+ is considered to be a creditworthy borrower.

Income

Your income determines your creditworthiness. Most lending institutes do not offer loans to businesses having income below a certain level. This lower limit changes for each bank and NBFC. In other words, your income levels determine the amount of loan you will be able to obtain.

Current liabilities

Along with your credit score and income, underwriters also consider your current liabilities such as other ongoing loans, as it impacts the loan repayment capability.

Involvement of collateral/mortgage

Underwriting guidelines for mortgage loans are separate from collateral free loans. Since security is promised and lender can liquidate the promised asset in case of loan default. In this scenario, the value of the collateral determines the loan amount. Hence, guidelines for collateral loans differ.

Commercial loan underwriting checklist

So, here is a list of documents underwriters need from a business loan applicant.

• Application form
• Business plan
• Project report
• Company’s bank statement
• Latest ITR
• Proof of continuation (ITR/Trade license/Establishment/Sales Tax Certificate)
• CA certified company balance sheet and Profit & Loss account for the previous 2 years
• Property or collateral related documents in case you are promising a collateral

Loan underwriting process

Here is a process of loan underwriting:

Applicant submits a loan application

An applicant submits a loan application along with required documents that include personal and financial information such as income, assets, liabilities, tax returns, financial records, and credit score.

Review of documents

The loan officer undertakes an initial review of the documents and ensures all documents are submitted for the underwriter’s review. Then the application and documents are forwarded to the underwriters.

Credit analysis

Underwriters check credit history and assess credit score of the applicant. This step determines the applicant’s creditworthiness. As mentioned earlier, a good credit score indicates a history of responsible credit management, which improves the chances of loan approval and favorable terms.

Capacity assessment

Underwriters evaluate the applicant’s ability to repay the loan. This is done by analysing their income, debt-to-income ratio (DTI), and other financial obligations such as other liabilities.

Risk evaluation:

Underwriters then assess the overall risk associated with the loan. For this, they consider all factors including the applicant’s credit history, financial situation, and the purpose of the loan.

Loan decision

Based on the conclusions of all the above steps, underwriters come to the decision of whether the business loan can be approved or to be denied. In case it can be approved, then the loan amount is decided. Also, underwriters recommend loan tenure, interest rate and if any specific terms and conditions to be added to the loan agreement.

Loan approval

The loan officer then conveys the decision and explains the approved loan amount, rate of interest and terms and conditions to be followed. When the applicant is ready for the approved loan amount, a business loan agreement is drawn and loan is disbursed.

Concluding remarks

Loan underwriting is a crucial process. From a business owner’s perspective, it is best that the loan application is scrutinised by underwriters as it mitigates risk. Business owners get insights into their creditworthiness and loan amount that they can avail of and consider other business financing options in case more funds are needed.