Sources and uses of the loan proceeds also provide good information about the purpose of the loan. If there are covenants, clearly explain what is required and how those will be monitored. Conditionsĭocument the origination amount, maturity date, interest rate (fixed/variable, index, spread, floor, ceiling), amortization schedule, call code, risk rating, and more. The lower the LTV/LTC ratio, the more skin the borrower has in the collateral, thus reducing credit risk. Whatever secures the loan, notate if the LTV/LTC is within or outside of policy. For purchase money loans, document the purchase price and present loan-to-cost (LTC). For real estate loans, the basis for the valuation should be noted ensure value aligns with the interagency guidance for real estate appraisals. If the loan defaults and the bank repossesses the collateral or if the borrower must sell the collateral to repay the debt, it is necessary to document the asset’s value and loan-to-value (LTV) ratio. The more capital a borrower has the less risk to the institution. Cash and investments are noted on the most recent tax return or financial statement and total liquid assets at the time of approval. If the borrower has problems generating cash to service the loan in the future, do they have enough cash on hand to supplement income shortfalls? Documenting cash held in the institution is important. How much additional liquidity does the borrower have? The closer the DSC ratio is to 1.0x or the higher the DTI ratio is, the more the risk increases for the credit. ![]() Current debt payments combined with new debt should be included. Pro forma information can also be considered (such as expected future earnings). Cash flow, or earnings before interest expense, taxes, depreciation, and amortization (EBITDA), should be calculated and documented based on the past 3-5 years of tax returns or financial statements. Commercial loans generally utilize the debt service coverage (DSC) ratio. For consumer loans, it is common to calculate debt-to-income (DTI) ratio considering current debt load, additional debt, and current earnings. How is the borrower planning to service the debt?ĭocumenting the ability to service the debt as agreed is critical. The credit risk increases the more problems a borrower has shown in the past. ![]() Finally, the deposit history should be evaluated and included if the borrower has a history of overdrafts and NSF items, this information should be noted. Information such as the credit score, past due history, public records can help evaluate the borrower’s character. This should include previous credit performance with the bank or the borrower’s history with the lender at other institutions if the officer is new to the institution. What is the Bank’s history with the borrower? ![]() However, by including each of these elements in your credit memo, you can meet regulatory requirements and assist in monitoring credit risk. These principles have existed for years but aren’t always applied in the documentation. Below are the “five C’s” of credit that can be used in the underwriting documentation. ![]() Credit memos can be simple yet provide a road map to help someone other than the loan officer understand the nature of the credit.
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