how underwriting standards work
sound underwriting standards protect financial institutions from excessive risks that can lead to losses history indicates that lending and underwriting standards are generally pro cyclical as competitive pressures increase for loan growth banks may be enticed to ease underwriting standards to expand the loan portfolio in order to generate earnings as conditions begin to deteriorate this easing of underwriting standards can cause banks to face an increased risk followed by rising losses and an eventual tightening of underwriting standards for example during the financial crisis of 2008 2009 some lenders reduced prepayment fees and offered heightened flexibility on the terms of the loans they issued during that same crisis many companies also tightened underwriting standards one of the culprits in the downturn requirements for underwriting standardsthe choice to modify a financial institution s lending terms and underwriting standards is usually the result of decisions made by the board and senior management alternatively subtle de facto revisions in policies can result from how standards and procedures are actually applied in practice in both instances appropriate risk management steps must be taken to ensure risks are properly identified monitored and controlled and that loan pricing terms or other safeguards against nonperformance are appropriate for the risks being taken a federal reserve study of lending practices outlined six core lending terms and underwriting standards for maintaining strong credit discipline and assuring smart credit decisions those standards include 12example of underwriting standardsthe federal deposit insurance corporation fdic has its own recommended guidelines for underwriting standards for credit cards per the federal deposit insurance corporation fdic underwriting standards help ensure credit cards offered to customers meet an acceptable level of risk some of the key underwriting standards that the federal deposit insurance corporation fdic recommends for credit cards include 3