What is a Credit Granting Procedure?

Credit Granting Procedure

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Credit Granting Procedure

A credit granting procedure is a systematic process that a business or financial institution uses to evaluate a customer’s or borrower’s creditworthiness and decide whether to extend credit to them. This process is crucial for managing the risk of non-payment (also known as credit risk).

Here’s a general outline of a typical credit granting procedure:

  • Application: The potential borrower submits a credit application that includes relevant financial information. For an individual, this might include income, employment history, and current debts. For a business, it could include financial statements, business plans, and information about the company’s industry and competitors.
  • Credit Check: The lender checks the applicant’s credit history with one or more credit bureaus. This provides information about the applicant’s past borrowing and repayment behavior.
  • Credit Scoring: The lender may use a credit scoring model to quantify the applicant’s credit risk. The credit score is usually a numerical value that represents the likelihood of the applicant defaulting on the loan.
  • Approval/Rejection: Based on the credit score, credit history, and other financial information, the lender decides whether to approve or reject the credit application. The lender may also consider other factors, such as the applicant’s relationship with the lender and the lender’s current risk appetite.
  • Terms and Conditions: If the application is approved, the lender sets the terms and conditions for the credit. This includes the credit limit, interest rate, repayment schedule, and any fees or penalties for late payment.
  • Loan Agreement: The borrower and the lender sign a loan agreement that outlines the terms and conditions of the credit.
  • Monitoring: After the loan is disbursed, the lender continues to monitor the borrower’s creditworthiness and repayment behavior. If the borrower’s circumstances change significantly, the lender may need to reassess the credit risk.

This procedure helps lenders manage their risk and make informed decisions about extending credit. However, it’s important for lenders to comply with all relevant laws and regulations, including those related to data privacy and fair lending.

Example of a Credit Granting Procedure

Let’s take the example of a bank granting a home loan to an individual:

  • Application: John, the potential borrower, applies for a home loan from XYZ Bank. He fills out a credit application providing details like his employment status, income, existing debts, and the property he plans to purchase.
  • Credit Check: XYZ Bank conducts a credit check on John by contacting one of the major credit bureaus. They discover that John has a good credit history with no defaults on previous loans.
  • Credit Scoring: XYZ Bank uses its internal credit scoring model to assess John’s credit risk. Considering John’s income, job stability, existing debts, and credit history, the bank calculates a credit score that suggests John is a low-risk borrower.
  • Approval/Rejection: Based on John’s credit score, credit history, and financial health, XYZ Bank decides to approve John’s home loan application.
  • Terms and Conditions: XYZ Bank sets the terms and conditions for the loan. The loan amount is 80% of the property’s value (since John is making a 20% down payment), the interest rate is 4% per annum, and the repayment period is 30 years.
  • Loan Agreement: John and XYZ Bank sign a loan agreement outlining the terms and conditions of the loan. John agrees to make regular monthly repayments over the 30-year period.
  • Monitoring: After disbursing the loan, XYZ Bank periodically reviews John’s repayment behavior and financial situation. If John loses his job or takes on substantial additional debt, for example, the bank may re-evaluate the risk associated with his loan.

This example illustrates the standard steps in a credit granting procedure for a typical home loan. It’s important to note that the specific details and requirements can vary widely depending on the type of credit being extended, the borrower’s circumstances, and the lender’s policies.

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