Credit Appraisal: Definition, Process, Eligibility & Benefits

10 MAY, 2024

While applying for a loan or credit card, you must have experienced that sometimes your application form gets instant approval, but sometimes it gets rejected. Have you ever wondered how financial institutions decide to accept or reject the application form? The answer to this query is credit appraisal, also known as credit evaluation. It is the most significant factor in deciding the fate of your loan or credit card application form. But do you know what credit appraisal is all about? If not, don't worry; you have landed on the right page. This blog will provide essential details about credit appraisal meaning, process, eligibility, and more.

What is the Credit Appraisal Definition?

Credit appraisal, also known as credit assessment, is carried out by financial institutions like Kotak Mahindra Bank. It is a comprehensive evaluation of a borrower's creditworthiness and the possible risks associated with increasing their credit limit. This credit analysis process explains the borrower's financial standing, including income, assets, obligations, credit history, and loan repayment ability. The fundamental purpose of following credit appraisal techniques is determining the borrower's potential to repay their loan or credit obligations.

Know Eligibility for Credit Appraisal

The eligibility criteria for credit appraisal may vary depending on the financial institutions. Here are some common elements that fall under the eligibility criteria of the credit appraisal process:

Income Stability: Your overall financial situation, employment history, and income level impact your eligibility for a credit facility.

Credit History: Your credit history is another vital factor financial institutions look for while assessing your loan or credit card application form. A good credit history demonstrates the good financial health of any individual. It shows the borrower is responsible and has good experience in managing their financial obligations and expenditures.

Loan-to-Cost Ratio: This metric evaluates the correlation between the loan amount and the expenses related to the funds' purpose. Loan-to-cost ratio plays a vital role as it assists lenders in calculating the precise amount of a loan that should be authorised.

Debt-to-Income Ratio: This ratio calculates the proportion of a borrower's current financial obligation in relation to their income. A lower debt-to-income ratio reveals fewer existing debts, which signals the borrower can easily repay the loan without having the risk of being a defaulter.

Collateral: If a borrower has applied for a secured loan, lenders evaluate the value or quantity of the collateral provided as the procedure of credit appraisal before finalising their decision.

Benefits of Credit Appraisal

Here are the benefits of credit appraisal:

Prevents the risk associated with loans provided for projects.
Establishes assurance among corporate bankers, allowing for more effective sales alternatives.
Reduces the likelihood of Non-Performing Assets (NPAs) and minimises financial losses.
Ensures thorough evaluation through consideration of various options.

Credit Appraisal Process

Here’s a step-by-step guide that will aid you in comprehending the credit appraisal method:

Step 1: Application Review

This initial procedure encompasses the bank evaluating the credit application submitted by the individual or company requesting credit. The financial institution thoroughly reviews and verifies every detail filed in the application. Thus, while filing the application form, individuals/companies must provide each detail correctly, as failure to do so may lead to rejection.

Step 2: Documentation

Financial institutions look for certain documents when assessing the application form. These include proof of income, bank statements, identity, and more. Submit the application form with the required supporting documents to avoid any hassle.

Step 3: Credit and Financial Assessment

The bank or lender examines the borrower's financial condition, existing debts (if any), and repayment history. Such information helps financial institutions assess a borrower's overall financial status and the probability of defaulting on loans.

Step 4: Loan Structuring

Upon a positive review of the borrower's creditworthiness, financial situation, and risk profile, the lender persists in determining the loan's specifications, such as the initial loan amount, interest rate, and payback period.

Step 5: Approval and Administration

After completing all the procedures, the lender approves the loan. The time required to complete the whole process may vary across the lenders.

Factors Evaluated During a Credit Appraisal Process

The following are the factors evaluated during a credit appraisal process:

Income: Borrower income is the foremost thing a lender evaluates. It helps determine whether the person is eligible for the credit appraisal.

Age: Each financial institution has specific age criteria for borrowers. Any individual applying for a loan or credit card must fulfil this requirement.

Credit History: The lender assesses the borrower's repayment ability by checking the borrower's prior or existing financial debt (if any). A good repayment history demonstrates that the individual is a responsible borrower and is less likely to default.

Credit Score: A credit score is another important parameter that aids in establishing an individual's creditworthiness. This score ranges between 300 and 900, and a score of 750 or above is considered a good number. Having a good credit score eases the credit appraisal process since it shows an individual's excellent financial well-being.

Hope this article has answered all your questions about Credit Appraisal, its meaning, process, eligibility and benefits.

Frequently Asked Questions

1. How does the credit appraisal process assess the creditworthiness of individuals or companies?

The credit appraisal method assesses the creditworthiness of individuals or companies by analysing attributes such as credit history, income stability, debt-to-income ratio, collateral, and financial health to determine repayment capacity.

2. What advantages do borrowers gain from a favourable credit appraisal in obtaining loans and credit facilities?

A positive credit evaluation makes it easier for borrowers to obtain loans and credit facilities with lower interest rates, higher loan amounts, and quicker approval procedures.

3. How do credit scores influence loan approvals and their role in the credit appraisal process?

A credit score ranging from 300 to 900 indicates an individual's creditworthiness. A score of 750 or higher is favourable, and it simplifies the credit appraisal by reflecting strong financial health.

4.What factors or documentation should applicants prepare for a successful credit appraisal?

Documentation such as income proof, identity proof, tax returns, bank statements, and credit history reports facilitate a successful credit appraisal process.

What is Credit Appraisal: Meaning, Process, Eligibility & Benefits