Credit Appraisal Process: The five key Cs that shape it

2 min read

Credit Appraisal
Credit Appraisal Process

Credit appraisal depends on several core factors which deserve to be carefully enumerated. Here is taking a brief look at the same.

Wondering what makes up credit appraisal processes? This procedure depends on the five major Cs of credit. These are capital, character, conditions, capacity and collateral. These are the criteria that give lenders the right perspective on how to evaluate borrowers who have just applied for obtaining loans. The key question for lenders here is whether it is prudent to invest in a particular borrower or not.

These credit principles are tapped by banks and financial institutions when it comes to home loans, car loans, education loans and also MSME and other loan types.

Character- How and Why It Matters

One of the basic Cs of credit appraisal is character. This is the very first aspect looked into by lenders and seeks to measure the reliability and trustworthiness of borrowers. It is basically a paradigm for ascertaining the type of borrower and whether he/she can be trusted to repay the loan in full within a specific time period. Trust is the key principle that is behind lending and borrowing of money since time immemorial.

This is the parameter where lenders also delve into your credit history for assessing the type of borrower you are and your approach towards credit, i.e. whether you repay loans on time without defaults. Borrowers with higher credit scores always have a natural advantage in any credit appraisal process since banks feel that they will not create any trouble in the future. Lenders will naturally be reluctant to fund borrowers who do not have good reputations in the market or who have poor track records of making payments. Credit scores are thus analyzed along with credit histories and reports which show how you are utilizing credit and the percentage of debt to income. Lenders also check how long you have been employed at your current position, whether you are financially stable and so on.

Capacity- How is this important?

Another C of credit appraisal stands for capacity. Now, this is extremely important since this equates to your cash flow. This indicates how strong you are financially when it comes to paying back your loan. If a lender observes that you will not have enough income to repay the loan, then you will not be sanctioned the same. On the other hand, if cash flows are good and you have always been a trustworthy borrower, then your loan will be sanctioned faster.

The debt to income ratio is what is measured here along with income proof and bank statements. The lower this ratio, the higher your eligibility for the loan in terms of the amount. Bank and cash flow statements indicate the available capital at your hand and lenders will also ascertain your employment history.

Capital- Looking deeper into this key parameter

Credit appraisal’s third C is capital. This helps lenders in analyzing the money that you have already invested in your own business if you are a self-employed borrower, for instance. This may include the money pumped in for establishing the business, how long you have been doing business, do you have ample assets as collateral for other debts and so on.

Lenders want to see borrowers who invest money into their own businesses for future growth. The capital and assets that you have will naturally be ascertained along with investments in the right channels.

Conditions- A vital factor for lenders

For business loan applicants, this factor means the bigger aspects that surround the growth and future of the business, i.e. social, economic, political and industry aspects. Most importantly, for every loan applicant, the bank will look to see what you will be using the money for. Lenders will look to judge how you will use the sanctioned loan amount. This is a vital aspect of credit appraisal processes.

They will often look at your relationships with clients and suppliers (in case of business loans), industry factors, how the money may be deployed and so on.

Collateral- When does this factor come into play?

The fifth and final C of any credit appraisal process pertains to collateral, i.e. the quantum of assets or securities that you can pledge against your loan. This could be anything from shares, real estate, life insurance policies, equipment, inventory, accounts receivable or more. While some loans like home loans and car loans have the home or car as the collateral respectively, other loans may necessitate collateral as the backup option for lenders.

Lenders wish to see that they will at least recover some of the money if you are unable to repay your loan via this collateral. For businesses, collateral stands for real estate, equipment, accounts receivable and inventory among other aspects.

Now that you have a fair understanding of the credit appraisal process, you should make sure that fit every possible requirement before applying. It will only save you time and heartburn in the long run.

Credit Appraisal Process