Peer-to-peer lending is growing to become a convenient option for loan seekers to get unsecured loans through P2P lending platforms. The P2P lending process involves 3 elements- the P2P investor, the borrower, and the P2P lending platform.
The peer-to-peer lending process is based on the concept of crowdfunding, where the platform collects capital from various investors and then distributes it among multiple borrowers in the form of P2P loans.
Now, since P2P loans are usually unsecured, the investors have no collateral to ensure that their invested capital is secure. Hence, P2P platforms carry out a risk assessment during the loan approval process to check if the borrower has the ability to repay the loan. This process is called credit underwriting or credit risk analysis.
In this article, we will understand what credit underwriting is and how it works in P2P lending. Let’s get started!
What is Credit Underwriting?
Simply put, credit underwriting is the process where banks and other financial institutions take a potential borrower’s personal, financial, and/or business information and analyse it to assess their ability to repay loans. The borrower’s loan application is then accepted or rejected based on the results of the credit underwriting process.
Why is Credit Underwriting Important for P2P Lenders?
For P2P lenders, evaluating a loan applicant’s creditworthiness is one of the most important tasks as this determines the security of the loan amount by understanding the borrower’s capacity to repay the loan.
How Does Credit Underwriting Work in Peer-to-Peer Lending?
To keep a low loan default rate, P2P lending platforms have certain lending criteria that the borrowers must satisfy to get a P2P loan. In their risk management process, P2P platforms carry out a detailed credit risk analysis of borrowers to check their credit worthiness.
The borrowers are vetted based on many grounds before they get a loan approval. Some of the parameters followed by P2P platforms to evaluate borrowers and create their risk profile are credit history, salary, credit score, etc.
The platform asks the borrowers to furnish their KYC documents like PAN, bank statement, address proof, and income details to carry out the credit risk analysis. Moreover, certain P2P platforms may also have a minimum annual income clause for borrowers.
Most P2P platforms in India divide borrowers in different categories- very high risk, high risk, medium risk, low risk and very low risk. The borrowers are rated under these categories based on their financial history, income and repayment capacity.
Since borrowers under the very high risk category have a probability of defaulting on their loans, they are more likely to be ignored and blacklisted by banks and other financial institutions. However, P2P platforms look at every borrower as an individual and do not blacklist them based on their credit history.
Unlike banks and other traditional financial institutions, P2P platforms do not rely solely on the borrower’s salary slip and bank statements to evaluate their creditworthiness. With the development in modern technology, most P2P lending platforms in India now use data analytics, social modelling, and other technological tools to understand the borrowers risk profile. The platforms rely on alternative means to check a P2P loan applicant’s personal details, repayment records, and cash flow.
Credit Underwriting at 13Karat
At 13Karat, we deploy stringent checks on a borrower’s KYC, credit score, and income proof to reduce the risk of loan defaults for our investors.
Know more about how P2P lending works at 13Karat
