What is Loan Underwriting? What are Underwriting Rules?

A loan approval process is much complex and it involves a number of steps. After all, it is critical to understand the borrower’s profile and the risk associated with it before lending. That’s why, the lender's credit department works hard on the evaluation and verification of your loan application. To determine the disbursement value, they assess the applicant's credit risk by weighing different parameters. This entire procedure is known as loan underwriting.
 

What is Loan Underwriting?

 
Underwriting is a risk evaluation process carried out by financial institutions to understand the default probability on your profile. The term derives from its working model, which is the amount of risk that an underwriter is willing to accept in exchange for a premium (interest rate). In case the risk is too high, the lender will turn down your funding request.
 
The underwriting process applies to many financial products other than loans, such as health insurance, life insurance, etc. 
 

What are the various types of loan underwriting processes?

 
The underwriting process is of the following two types–
 

• Automated underwriting

  In this process, the lender relies heavily on technology to perform initial or complex risk assessments. They use Artificial Intelligence, Machine Learning, and other technological advances to determine whether or not an applicant qualifies for a loan in minutes. The most common adaptation of automated underwriting can be seen on digital lending apps that offer personal loans. These apps provide approval in as little as 30 seconds on average.
   

• Manual Underwriting

  This type of underwriting is frequently used in conjunction with automated ones. Manual underwriting is used for large loans or secured funding that requires physical inspection of pledged or mortgaged assets. Furthermore, if the borrower has no credit history and is applying for a loan for the first time, the lender will conduct underwriting by manually reviewing your income and other financial documents.
   

What are the steps involved in the Credit Underwriting Process?

 

1. Credit history review

   This step gives lenders a fair idea of your borrowing behaviour and repayment attitude. The process begins with a hard inquiry, which involves requesting your credit report from a credit bureau. Once the lender has this report on their table, they go over the total number of outstanding debts, the number of active credit cards, and the utilisation rate. They then investigate past credit behaviour to see if there is any default or irregular EMI payment history on previous debts. A poor report results in loan rejection without further underwriting.
    

2. Income review

   This step informs the lender about your current earnings. The lender reviews the income documentation that you have provided. They examine your bank statement to ensure there is no income gap in the salary credit. If you make passive income, submit proof for that as well. You might also have to submit your income tax returns in case you do not have salary slips. It is important to mention all your income sources as higher income makes you eligible for better deals on your loan. Upon successful verification of your passive income your loan application is passed for further verification.
    

3. Employment check

   Different types of loans necessitate different levels of work experience. For example, if you are a salaried applicant seeking a two-wheeler loan, the minimum work experience required is one year, with six months with your current employer. On the other hand, if the loan is a mortgage with a real estate asset as collateral, most lenders will only consider self-employed applicants.
   
   At this stage of the loan underwriting process, the lender determines whether you are consistent or switch jobs frequently. They also try to assess the lender's reputation to ensure that no cases of salary delay occur in the future.
    

4. Debt-to-income ratio

   This step is critical because most of the time, the applicant with a good income and established employment defaults on repayment. It happens for one reason only: debt to income ratio. It is the proportion of your monthly salary that is spent on EMI repayment. This ratio can be calculated by adding your total monthly EMI, regardless of loan type, and dividing it by the gross monthly income. A debt-to-income ratio of 40-50 is considered acceptable and will qualify you for a lower personal loan interest rate.
    

5. Property condition

   Physical property verification is required as part of the underwriting process for mortgage loans. They look at the age, circle rate, and overall condition of the property. If the property to be mortgaged is very old and requires maintenance due to damaged ceilings, broken walls, and so on, the loan application will be denied. Also, all your mortgage papers must be in place, even a minor discrepancy in the papers can also result in your loan rejection.
    

6. Investment documents

   If the loan you are applying for is collateralized by an investment, the lender will look over your investment certificate. They see the time remaining until maturity and the return that the scheme provides. Funds are typically offered in exchange for cash-valued debt instruments such as bonds or life insurance policies.
    

7. Credit appraisal 

   After the lender has completed the preceding steps, they will proceed to the credit appraisal process. They determine the amount of loan you are eligible for at this point. If you have a good credit history, a low debt-to-income ratio, and stable employment, you may be approved for the higher amount listed on the lender's website. A good profile also qualifies you for an affordable interest rate. 
    

How long does it take to underwrite a loan?

 
Underwriting turnaround time depends on various factors. It may take a few minutes to several hours from the time you apply for a credit card or a personal loan. But because of the additional effort required in property verification and valuation, secured financing, such as a mortgage, takes a few days. Turnaround time also relies on the documentation you have provided. Any inaccurate or missing papers may result in a delay. 
 

Crucial consideration during the underwriting process

 

• Refrain from applying for new credit until the loan you have applied for is disbursed. 
• Keep all original documents in order; you may be asked to provide them during the verification process.
• Never conceal any vital information on the loan application form.

 
Also Read: What is the Loan Process?
 

Conclusion

 
Underwriting entails a thorough evaluation of your profile to determine whether you will be able to repay your debt on time. All key factors, such as your income, the property to be mortgaged, your credit history, and so on, are considered in this process to assess the risk of lending to your profile. The underwriting turnaround time varies by loan product.