Credit Evaluation in USA vs India - Importance of Character of Borrower
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I was in USA for few weeks in June 2015. In spare time I used to surf the net. When you are in USA, you tend to view more news and links which are specific to USA. I used to become curious whenever something relating to banking used to catch eye.
One day I read an article in New York Times relating to Home Prices. Most of the content was specific to prices of homes in US and their movements during the financial crisis period and thereafter, but it also contained some interesting contents about the evaluation of loan applications for sanction of Home Loans.
Before going further let me explain for the benefit of our younger bankers as to what is an loan evaluation and approval.
What is Credit Evaluation :
Credit evaluation is the process undertaken by banks (or other lenders), with a purpose to decide whether it is willing to lend money in the current economic situation and to assess the willingness and ability of the borrower to return the money or pay for the goods obtained—plus interest—in a timely fashion.
(A)Process of Evaluation in USA :
(1) There will be number of different processes adopted in USA for approval of loans. We are not going into details of those as I am not expert in US banking. However, I would like to quote (as given in the New York Times article) from the experience of one of the persons in USA who had approached banks for home loan :-
· “Their lenders ……. carefully vetted their income and where their savings from the down payment had come from”. “They verified three years of employment and checked all our stocks, mutual funds, bank accounts”. It further says “They wanted to know where it came from, why we transferred it. That helps you feel comfortable that they’re looking at it in depth.”
(2) At another place, I read about the American banker’s experience of assessing about credibility of the borrower. It read as follows:-
This banker informed that he often relies upon reaching a personal "comfort level" with a borrower before making a loan. This comfort level is based upon the degree of trust or confidence that the banker has in the accuracy of the information and documentation being presented to him. He observed that in order to get their loans approved small business borrowers sometimes talk him out of this comfort level by disclosing that their tax returns underreport income and overstate expenses. Such disclosures cast doubt upon the credibility of the loan applicant, and impair any sort of trust or confidence between the banker and the prospective borrower.
The above two comments shows that there is greater degree of reliance on the honesty and credibility of the borrower in giving loans by banks in USA.
By above comments I am not suggesting that in USA everything is above board, but what I am indicating is that in most of the cases the above kind of prudence is followed.
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(B) Process of Evaluation in India :
I think there is not much need to explain how we evaluate our loan applicants in India. Not only during loan campaigns or loan melas but also in normal circumstances, bank managers merely check whether the applicant has sufficient margin to remit and what is his current income through salary slips and otherwise. Nobody is bothered as to how he has saved his margin – sometimes he may have merely borrowed the same from friend or relative for temporary period and shown that in his bank pass book. Manager is more than happy to see that sufficient margin the available in the passbook and they are least bothered about the source of savings shown in the pass book.
In case of income tax return evaluations, when a borrower tells us proudly that he has understated his income and concealed a large part of the income, Manager gleefully accepts his argument and may even node and give comments like “we know it is done by every businessman”. Thus, when the borrower is openly is admitting that he has cheated the government by not paying taxes, we do not consider him cheat and do not doubt that he can a habitual cheater can also cheat the bank once he has availed the loan.
Is Their Any Solution To This Problem in India ? :
In sanction of loans we are satisfied with whatever documents are produced to us and usually do not go into details as to how such assets were created. For big ticket loans, right from BM, Regional Manager / Circle Head / Zonal Manager, General Managers, EDs and CMDs, never raise questions about the whether the collaterals given as security have been purchased at the market price or the borrower has cheated at the time of purchase of property by understating the price and paying the balance in black money. Similarly, BMs also agree to overstated market value which includes the black money component, which in case of sale by bank can not be accounted for. Thus, while valuating the same property we happily take the highest market price (including the black money component) available for recent times.
Is There any Solution to this Problem in India ?
I am sure my above examples will not be liked by many and they will ask as to what is the solution to the problem. Frankly, speaking there is no easy solution for this. All this is happening as such cheating by businessmen are not considered as serious dent on the character of the borrower. Moreover, if I refuse this loan, there will be many more bankers who jump to sanction loan to such businessmen who has documents to prove so. Then I am not left with an option. If I refuse, surely my bosses will scold me for letting such a Good Party go and losing business for my bank.
The result of the above attitude has resulted now in large scale NPAs and banks are on brink of losing their credibility. We have to bring a change in our attitude towards such borrowers and understand that a businessman who cheats government, will cheat bank too as and when he gets a chance. Most of the big ticket NPAs are from those businessmen who have cheated government of taxes and on other counts. Most of the time we are well aware of this fact but ignore if we know that he is a BIG MAN (rich and powerful). While sanctioning loans in India we ignore the basic norm of lending i.e. to assess the character of the borrower. This was the first basic rule (assess the character of the borrower) which I learnt when I joined bank but slowly it has lost its value, specially in last two decades or so. Now we feel safe even if we know that the documents (signed by lawyers or CAs etc.) submitted are manipulated for evading taxes, defaults in other banks etc. Young Indian bankers have to re-learn this now that character of the borrower is of upmost importance. If we fail to re-learn this, Indian banking will perish with mounting NPAs.
Note : The above does not indicate that I fully endorse the evaluation by US banks as I do not have indepth knowledge about the same, but I am pretty sure on the above issue, Indian banks now a days totally ignore the above referred basic norm of evaluation.
I will write more about banking in US in the coming weeks, which may be useful for young bankers who are interested to widen their knowledge about banking across the globe.