Credit risk is the probability that a debtor will not pay back a loan or other credit extended to them by a financial lender. Credit risk applies to both individual consumers and business borrowers, whether they are applying for loans, lines of credit, credit cards, insurance policies, and more.
Credit risk is a leading concern for financial institutions, which spend a considerable amount of time and research to carefully review and evaluate applicants before approving or rejecting client applications. Accurately assessing credit risk is also known as credit decisioning or credit risk assessment, and is a role often fulfilled by underwriters at these institutions.
Despite the efforts of financial companies, there is no way to completely eliminate credit risk, or predict it with complete certainty. Every financial lending decision carries a certain level of risk, and even applicants who present strong credit histories and credentials may still end up defaulting on a loan.
However, financial lenders typically rely on a set of criteria known as the Five C’s to help them make the best decisions possible when reviewing a candidate’s application. These criteria are based on:
To navigate these factors, financial lenders are increasingly relying on data to power their assessment and decisioning processes. By obtaining more complete, updated sources of data about consumer and business applicants, lenders can better assess risk, even based on up-to-the-minute changes and new types of information that might not have been available previously.
When evaluating an applicant, financial lenders will look for several common “red flags” that could signal that an applicant poses a high credit risk. These issues include: