CHAPTER 1

INTRODUCTION

CREDIT ANALYSIS & LENDING MANAGEMENT

Introduction
What is credit?
Trust given to another person for future payment of a
loan, credit card balance, etc.
Creditor
A person or company to whom a debt is owed

Purpose of Credit
Purpose for investment that improve financial status.
Vacation loans , represent pure consumption
expenditure without any return of value after the fund is
spent.
Loan consolidation helps a family with lower monthly
payments.
Therefore, credit analysts need to make good judgment
on whether the applicant really need the financial aids.

Cost of Credit
Interest Rates
Percentage that is applied to debt.
Principal
Amount of money borrowed.
Time Factor
Length of time for which interest will be charged.
Maturity Date
Date on which a loan must be repaid.

 Finance Charge or Fees

Cost of credit stated in a dollar figure
Annual Percentage Rate (APR)
Indicates how much credit costs on a yearly basis.
Grace Period
Time period during which no finance charges will be added to an account.
Cash Advance
Borrow money on a credit card.

Credit Investigation
Credit investigation is a series of steps that: undertake to verify information provided in credit application
determine how the customer has handled past financial obligations as an aid in
making a sound credit decision.
Credit application can be form or interview that requests information about ability to
repay debts.
The main purposes of credit investigation: verify information supplied
develop information.

PRINCIPLE OF LENDING
There is 5 Cs of credit analysis which are: Character
Capacity
Capital
Collateral
Conditions
Common Sense
Those Cs are the general term used to assessing the probability that a
customer will not pay or unable to pay.
Those Cs helps credit manager complete a quick mental check to determine
if any category of information has been overlooked. Such information has to
be investigated before them used to make credit decisions.

Character
Character is personal attributes related to integrity and
the morality of a person.
Credit character is described as the willingness of the
credit customer pays the payments as agrees. Thus, the
evaluation of character is evaluating the customers
willingness to meet credit obligation.

Capacity
Capacity is the ability of a credit applicant to pay a
specific amount of obligation when it is due.
The measurement of capacity of an application normally
involves investigation income and employment.
The ability of an applicant to pay as agreed can be
determined by the level of expenditures and other
indebtedness.

Capital
Capital is the financial strength of a credit applicant.
It primarily determined by the level of reverse assets.
tangible assets: savings account balances, house and
land.
intangible assets: specialized skills and knowledge
owned by applicant.
These assets are available for the credit applicant to
rely on if financial adversity strikes.

Collateral
Collateral is the assignment of ownership rights in property when a credit
customer does not pay.
Lender, such as bank, may require collateral before approve the credit
application, to ensure they have a safer and better chance of being paid
back.
Eg: a borrower who owes a house may ask for a bank loan secured by the
house. If borrower does not repay the load, the bank will have ownership
rights on the house.
The lender should ensure that the asset is indeed owned by the person and
is not being used as collateral on any previous loans.

Conditions
Conditions is a credit analysis category that looks at
how the applicant fits into the economic system and
how economic events will affect the ability and
willingness to pay.
Employees destined for payoffs may have reduced
income and reduced willingness to pay if they blame
society for their misfortunes.
Age, obsolete work skills, lack of education, and other
conditions affect the ability of an applicant to maintain

Common sense
Common sense is simply good judgment. This credit analysis
tool is normally mentioned after an account has been
determined to be an uncollectible bad debt.
Relatively simple observation and calculations may often
demonstrate that a loan or credit account should not be created.
Eg: some borrowers who lack control of their spending habits
will continue borrowing up to the point where no more credit is
allowed. Credit analysts may have to substitute their own
common sense for the borrowers.

RELATIVE IMPORTANT OF Cs
CREDIT ANALYSIS
In consumer credit, the credit analyst gives more weight to credit
character and capacity than to factors that reflect an applicants
capital. They pay more focus on credit character and capacity.
Most of the credit managers would rather receive payments form a
willing and able applicant than depend on repossession.
Repossession is the legal process used to reclaim security or
collateral in the event of non payment of a loan.
Even though the legal channels for collection often exist, but the
willingness to pay as agreed is the most important quality in seeking
credit clients.

CREDIT QUALITIES TO
INVESTIGATE
credit qualities are often considered more important
analysis process.

in the risk

Credit scoring systems statistically based system that assign points

to characteristics reported on the application and on the credit
bureau report.
Eg: Applicants will gain more points for being employed at the same
job for 10 years than for 1 year. However, other characteristics are
considered and the points are then totaled to determine the score for
the credit applicant. If a certain score is not obtained, the applicant
may be turned down without further investigation.

 If a sufficient score is available, the computer

may
Authorize a new account
Assign a credit line
Issue the credit card
And establish the recordkeeping files
without further intervention

Payment record
Payment record is a predictor of behavior, and shows
past payment includes the amount currently owed, the
amount past due, the highest recent credit, and the
manner of payment.
The manner of payment should be stated specifically
such as pay in 30 to 60days, pays in 90days based on
the current good record even though applicant posses
bad record previously.
However the most important point is not whether the
consumer can pay but whether he/she willing to pay.
Some individuals able to pay back but they are not
willing to pay the debt. So, character plays a vital role.

Income
Most customer debts are paid from income, therefore investigation of
income is vital.
A credit investigator need to find out the applicants income and its
regularity, then estimates the probability of its continuance.
Screen prospective customers in order to identify highest quality
prospects.
Collect data for analysis of risks associated with prospective
customers
Evaluation of income - include family needs, obligation and individual
demand.

Eg: creditors can ask what an applicant is relying on , whether

alimony, child support, or maintenance payments to repay debt.

Indebted and expenditures

Indebted and expenditures includes the consumers
trying to uncover the total outstanding debts, the
amount of payments, and other obligations that can
drain income. Careful investigations on applicants
expenditure are needed because most of the applicant
will not realize they have problem making payments in
a timely manner. Individuals current contractual
obligations and present expenditure pattern should be
compared to confirm the applicants adequacy income.

Employment
This is principle source of income.
Employment information should include the name of employer, type of
business, and the applicants position.
The credit analyst may ask this several questions such as:
How long have the employee been employed?
Is he or she well thought of or likely to be terminated?
Is he or she holding permanent or part time job?
How much did the applicant earn?
How secure is the position and what is the outlook for the industry?
Investigation of credit prospects on who are self-employed should be
especially extensive since they supply their own employment.

Residence
Investigate on residence is a routine verification of
identity.
The length of time at the present location and any
previous residences in the current 3-5 years are shown,
thus it is important to determine whether they own or
rent the property.
a)If own property- investors should determine the
amount of the mortgage and the mortgage payment.
b) If rent property- the amount of rent and the
manner of payment should be determined.

Marital status
The firm can inquire about a persons marital status to determine
the rights and remedy under applicable state law.
A firm also can ask for joint signatures from a married couple on
credit application in order to comply with state legal requirement
involving liens, garnishments, or wage-assignment situations.
There are three types of acceptable terms:

i)Married

ii)Unmarried

iii)Separated.

Divorce or widowed are no longer acceptable.

Age
The applicants should be within a legal age to sign a
contract.
With most investigations, age is not an important credit
quality. However extreme of youth or age can be a
crucially important.
They cant use age in a credit scoring system unless the
system is demonstrably and statistically the age of an
elder applicant is not assigned a negative factor or
value.

Reserve assets
Reserve assets are additional surety that both debtor
and creditor hope will not be needed in most case.
In some case, older customers who are living on a
retirement fund or on income from investments, the
investigation of reserve assets are essential to handle
credit obligation.
When considering property ownership, analyst must
avoid attributing a positive effect to something that,
when carefully analyzed, should be given negative
weight.
Therefore, analysts need sufficient detail about such
situations to ensure they dont overlook a returning

Equity in purchase
Equity in purchase is an additional credit quality
especially in consumer installment purchasing.
The market value of the property available to the
creditor through the term of the contract, it may raise
an otherwise unacceptable credit risk well above the
level of acceptability.
Eg: If the equity is smaller and is not maintain the
amount and frequency of payments, personal credit
qualities should be analyzed more carefully and should
be correspondingly stronger to attain equal safety.
However, if the equity is large, it is correspondingly
harder to take away by others .

 Collateral is a form of security for a loan. It is an asset

owned by the individual and offered as additional
security to the lending institution . This is another credit
quality to consider. The value of collateral varies.
Commercial bank preferred forms of collateral:
eg: savings, bonds, stocks, and insurance policies ,
follow by real estate (premise, land) and etc.

The End