Guide to Credit Analysis and Credit Approval Process

The credit analysis must provide a complete assessment, and provide recommendations on credit limits for the approval of the approving authority. The document must also provide guidance to other operations of the financial institution. Borrowers and requests are heterogeneous, thus this guide is is an attempt to illustrate best practices and generally accepted industry practices.

Starting the Credit Analysis Process
An ideal commercial loan package submitted to a Credit Analyst would include:
  • Corporate or partnership financial statements for last three fiscal years where applicable, preferably prepared by a CPA on a review basis.
  • Signed Corporate or partnership tax returns for last three fiscal years, where applicable, preferably prepared by a CPA.
  • Personal financial statements on each guarantor not more than three months old.
  • Signed Personal tax returns for last three years, preferably prepared by a CPA.
  • Aged listing of accounts receivable when receivables are pledged as collateral.
  • Listing of inventory when inventory are pledged as collateral.
  • Copy of purchase agreements when purchase agreements are pledged as collateral.
  • Copies of leases, where applicable, and when rental income is used as source of repayment.
  • Schedule of real estate owned, and individual loan principal amount per property, loan payment amount (per property), rental income per property, and expenses per property.
  • Copy of real estate appraisal if completed during the credit analysis process..
  • Copy of Contract of Sale if applicable.
  • Any other financial documentation considered necessary to form a credit decision by the lending officer.

  • Credit Approval Form
    The Credit Approval Form, along with any supporting documentation (appraisal, financial statements, contracts, published information, independent credit reporting agencies, etc.) is utilized by a Loan Committee / Credit Committee to formulate a decision regarding the granting of credit to the respective applicant. At a minimum, the credit presentation must include:
  • Clearly identifies the Borrower / Borrowing Entity, Cosigners, Guarantors, and any related entities that the Bank may or may not have additional exposure to.
  • Executive Summary, which outlines the Borrower’s profile, business operations, lending relationship history with the bank (including principal reduction payments), the Bank’s loan number, matching collateral, etc.
  • Loan terms including rate, amortization period, loan term, and renewal history for any loan being considered, renewed, and/or reviewed.
  • Index for all installment loans.
  • Indication of third-party generated credit report personal credit score.
  • North American Industry Classification System (NAICS) identification number.
  • Covenants and requirements for future submission of financial data.
  • Exceptions to policy and underwriting guidelines are clearly indicated along with an explanation.
  • Information collection for concentration, regulatory data, and consumer compliance guidelines.
  • Summary of borrower and affiliated credit relationships, which clearly indicates total loan exposure, including unused portions of lines and unadvised guidance lines of credit.
  • Summary of bank relationship: deposits, loan products, internet banking.
  • Collateral identification and valuation, which clearly determines a Loan to Value (LTV) ratio.
  • Cash flow analysis for commercial real estate loans; cash flow analysis for commercial revolving lines of credit and term loans, including debt service coverage ratio (DCR).
  • Cash flow analysis and global debt service coverage ratio (DCR), which demonstrates the ability of the individual Borrower and/or Personal Guarantor to service any cash flow shortfall incurred by the commercial operation(s).
  • Personal Financial Statement (PFS) information for any individual person Borrower, Cosigner, or Guarantor.
  • Risk rating (as per federal guidelines) at inception and no less than an annual confirmation.
  • Result of an OFAC report.

  • Supporting documentation includes separate analysis forms that address:
  • Commercial real estate property cash flow.
  • Commercial business cash flow.
  • Individual cash flow.
  • Any form or documentation that explains the borrower’s cash flow, business operations, balance sheet, etc.

  • Collateral

    Collateral is a form of credit enhancement: in the event that cash flow cannot repay the the loan then the collateral can be sold to obtain sufficient funds to repay the outstanding principal balance, and then accrued items. Thus, collateral helps to mitigate Credit Risk: the probability of a counterparty defaulting on its payment obligations. The estimated market value of the collateral should always be established by an independent thrid party with knowledge of the market, and the estimated value should always exceed the amount of the loan. The secured party should have a uncontested primary lien against the collateral.

    Credit Risk Rating

    A Credit Risk Rating is the attempt to assign a single, numerical rating, which reflects the likelihood of the counterparty defaulting, the existence, quality and recourse to collateral, and the value of a pledge by the Guarantor. The risk ratings of loans is used to monitor the overall portfolio risk. There needs to be a methodology for the upgrade and downgrade of risk ratings as the risk profile of counterparties tend to migrate over time.