Final answer:
The process by which a lender evaluates a potential borrower's financial information before making a loan is called underwriting. It involves assessing income sources, performing credit checks, and potentially requiring cosigners or collateral. Other considerations include the loan's perceived risk and the comparison of loan interest rates with current market rates.
Step-by-step explanation:
The process through which a lender evaluates a buyer's financial data before making a loan is known as underwriting. In the financial capital market, this involves the lender requiring the prospective borrower to fill out forms detailing their income sources, and conducting a credit check on the individual's past borrowing behavior. Additional risk mitigation strategies include requiring a cosigner for the loan, who is legally committed to repay the loan if the original borrower defaults, or asking for collateral, which is property or equipment the bank can seize and sell to recover the loan amount if the borrower fails to repay.
Lenders are also influenced by factors such as the perceived riskiness of the loan, characterized by the borrower's income level and the performance of the local economy. Furthermore, the difference between the interest rate on the loan and current market interest rates plays a crucial role. A significant departure from the local economy performing strongly to a downturn can increase the risk perception, potentially reducing what financial institutions may offer for loans in the secondary loan market.