The life cycle of a loan plays a vital role in the financial health of both individuals and businesses. Individuals use loans to finance their college tuition, automobile purchases and home mortgages. Businesses rely on loans to finance capital expenditures and expansion plans. Regardless of their purpose, all loans follow the same general life cycle. An understanding of the life cycle of a loan helps the borrower prepare for all steps of the lending process.
Pre-Qualification and Application
The pre-qualification process involves a discussion between the borrower and the lender regarding the specific details of the loan. The discussion can include the objectives the borrower wishes to achieve with the loan proceeds, the borrower's credit history and the lender's interest rates. The borrower submits and application, which includes extensive data on the purpose of the loan and the borrower's ability to repay the loan at the specified interest rate.
When the lender receives the loan application, the lender's underwriters are tasked with verifying the application data. If a borrower enters false or misleading information in his loan application, the underwriter must find it to prevent the lender from issuing a potentially risky loan. While underwriting standards for mortgages were fairly loose until the 2008 financial crisis, the Consumer Financial Protection Bureau passed tougher underwriting standards on mortgage loans in January 2014.
After the underwriters have verified the application data, that application must undergo the approval process. A credit analyst examines the data in the application form to determine if the borrower has sufficient resources to repay the loan, or if that borrower carries a significant risk of defaulting on the loan. These criteria can include income sources, credit rating and value of collateral. Business loans are also evaluated using financial statements, loan objectives and guarantees by company executives.
Disbursement and Repayment
Once the loan is approved, the lender disburses the funds to the borrower and the repayment schedule starts. In some cases, such as with student loans, the borrower has a specified grace period between the disbursal and the start of the repayment schedule. The borrower is responsible for paying the balance of the loan, plus interest, according to the payment schedule outlined in the loan agreement. When the borrower fulfills the repayment terms, the life cycle of the loan ends.