How to perform effective—and compliant—credit checks

Over the last few years, lenders have noted an increase of individuals applying for lines of credit. The influx of credit applications has put a demand on lenders to review higher volumes of applications in a timely manner, while also performing thorough and effective checks. Since the timely payments of borrowers control a large portion of a credit union’s cash flow and their ability to run their day-to-day operations smoothly, the reliability of borrowers weighs heavily.

There are basic practices you should follow to ensure your credit checks are effective in selecting reliable borrowers while remaining compliant with rules and regulations. The below points can be used as a guideline for a strong credit control system.

Purpose and Permission

Running a credit check on a borrower requires two things: reasoning and authorization. You need a legitimate reason to run a credit check on a potential borrower, which is anytime someone is applying for a line of credit. Secondly, authorization from the borrower needs to be clearly obtained and documented.

Failure to have a reason for running a credit report, and/or no proof of authorization could result in legal trouble for your credit union.

Running the Credit Check

To run a credit check you need identifying details from the potential borrower such as a social security number, date of birth, legal name, address, etc. It’s important these details are double-checked to ensure you have identified the right person. Being off by a digit or two and running the wrong report could result in an unauthorized inquiry on someone else’s report.

It’s recommended that a report from each of the three nationwide reporting companies (Equifax, Experian, and TransUnion) are requested. This will give you a wider understanding of the borrower’s history and activity, which will come into use during the evaluation stage.

Evaluation Stage

Every credit union has their own standards when it comes to lending money. A borrower with a good perfect credit score and spotless payment history is the ideal borrower—but this isn’t always the case.

Millennials and younger generations are dealing with tougher financial situations than generations before. Because of this, many lenders are willing to work with individuals who don’t have a spotless credit history but can still be reliable borrowers. For example, if a borrower is marked as a higher risk, a credit union (depending on their preference) could counteroffer with a lower credit line or stipulations. These type of in-depth credit evaluations will allow credit unions to serve more borrowers without putting undue risk on their loan portfolio.  

Periodic Reviews

Unreliable borrowers aren’t completely impossible to avoid, but a good management of your credit control functions can keep them to an absolute minimum. There are risk management levels that should be in place to ensure borrowers are meeting payment requirements and in good standing. Since circumstances and the financial stability of borrowers change over time, it’s essential that periodic reviews of a borrower’s creditworthiness are reviewed.

Having these different levels of risk management practices will assist in flagging any potential risk from a borrower. If an individual is struggling with payments or has suddenly opened multiple lines of credit elsewhere, you now have the insight to take action and get ahead of a potential problem.

Smart Record Keeping

In order for your credit union to remain compliant, after the initial credit check, files for every credit report ran should be kept on file for five years. This includes borrowers that didn’t move forward with any type of credit. This is known as the “retention period.”

Since all three credit bureaus randomly select places to audit, it’s vital that credit records are on file and organized. This will allow you to quickly provide an auditor with the information they request. This will also save your credit union from any potential fines or revoked licenses. Once this period has passed, you can destroy any relevant paperwork that renders it unreadable.

As credit unions continue to grow and serve more members, their responsibility and potential risk grow as well. To learn more about managing risk at your credit union, download SWBC’s free ebook, Recipe for Risk Management.

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