Trust is one of the first words that comes to mind when describing the relationship between commercial loan brokers and their clients. Not only do you want your clients to trust you, but you also need to be able to trust your clients. Due diligence is one of the very first steps to building this strong foundation with your clients. If the loan broker does not conduct due diligence and makes a deal with a borrower that is less than trustworthy, it could mean thousands of dollars lost and a black mark on the broker’s career. Even before offering loan types, or financing options to potential clients, some amount of due diligence should be done.
So, What Is “Due Diligence”?
Due diligence is the process of verifying the information that clients give to the broker in the original loan request. Based on the information information, the broker will make the decision on whether to move forward or not with the client. The main purpose of due diligence is to determine if there are risks involved and what impact they may or may not have on the loan agreement.
The “Due Diligence” Process
During the due diligence stage, we want the client will be as open and honest about their credit, business financial information and property as they can be. It is wise to remind clients that their credit report will reveal quite a lot of information, and that transparency is the best way to obtain a loan quickly. Identifying marks against them early helps the broker match the client with the right type of financing, but concealing issues early on can lead to difficulty and lost deals down the road.
The broker will conduct an assessment, and the lender will do their own, both seeking to verify the information submitted, and evaluating for risk in the deal.
Due diligence looks different based on the amount of money a borrower is seeking and the borrowing scenario. It can include background checks, internet searches, and contacting references for interviews about how the client conducts business and their personal life.
You will need to look closely at a potential client’s bank records, payment history, and business ethics. Depending upon the type of loan and the loan amount, the due diligence phase could take 30 days or more to complete. It is definitely recommended that you notify your clients of this to maintain that important transparency.
Here are the kinds of assessments you may conduct as a broker working with prospective borrowers:
Borrower Assessment
When assessing a prospective borrower brokers start by evaluating their creditworthiness. This involves pulling and reviewing both personal and business credit reports from reputable sources such as FICO, Experian, Equifax, or Dun & Bradstreet. These reports provide a look into the borrower’s financial responsibility and payment history.
Conducting a thorough background check is equally important, as it helps identify potential red flags, including bankruptcies, judgments, or legal issues that may pose risks. For business loans, the borrower’s experience and track record in their industry should also be considered. A strong history of success and relevant expertise can be indicative of their ability to manage and repay the loan.
Financial Documentation Review
A comprehensive financial documentation review is a critical step in the loan approval process. This typically includes analyzing 2–3 years of personal and business tax returns to verify income and assess financial trends. Bank statements, usually covering 3–6 months, are evaluated to confirm cash flow consistency and account stability. Key financial reports such as profit and loss statements and balance sheets provide insights into the overall financial health of the borrower or business.
A debt schedule is also reviewed to detail current liabilities, helping lenders gauge the borrower’s ability to service additional debt. Additionally, a well-structured business plan or a clear explanation of the intended use of funds is essential as it highlights the loan’s purpose and outlines a repayment strategy, offering lenders confidence in the borrower’s financial planning and responsibility.
Business Borrower Verification
Business verification is a critical component of the loan approval process, ensuring the legitimacy and viability of the borrowing entity. This involves reviewing entity documentation, such as LLC or corporation formation documents, the Employer Identification Number (EIN), and any relevant business licenses, to confirm the legal status and authorization of the business to operate in the state and city where they are established.
Additionally, understanding the ownership structure of the business is essential, as it identifies key stakeholders and decision-makers who influence the business. Even silent partners will be evaluated in many business deals. Verifying the operational status of the business is equally important, as lenders need assurance that the business is active and capable of generating revenue to support loan repayment. These steps collectively provide a comprehensive view of the business, adding transparency and reducing risk for lenders.
Collateral Valuation and Verification
In most asset-secured financing deals, collateral valuation plays a critical role in the lending process, ensuring that assets such as real estate, equipment, and inventory are accurately appraised to determine their true market value. Accurate appraisals help establish the credibility and adequacy of the collateral, protecting both lenders and borrowers. Additionally, conducting a thorough lien search and reviewing UCC filings are essential to ensure there are no conflicting claims or legal disputes over the collateral. These measures provide lenders with confidence that the assets offered as security for the loan are unencumbered and sufficient to mitigate potential risks.
Loan Structure & Fit Matching with Lenders
Structuring a loan and matching it with the right lender involves a thorough understanding of lender guidelines, including parameters such as loan size, term, industry focus, and loan-to-value (LTV) ratios. Tailoring the deal to align with these key criteria increases the likelihood of approval and ensures mutual benefit for both parties. Additionally, conducting a pre-underwriting review is critical to confirm the loan package meets the lender’s specific requirements before submission. This proactive approach minimizes the risk of rejection, streamlines the approval process, and positions the borrower as a well-prepared and credible partner in the transaction.
Compliance & Ethics Disclosures
Maintaining transparency and ethical practices is critical within any financial transaction. Clearly disclosing all terms, fees, and broker compensation ensures trust and compliance with regulatory standards. Additionally, vigilance against fraudulent activities, such as document tampering or misrepresentation, helps safeguard the integrity of the process. It is equally important to obtain explicit consent and authorization from the borrower to perform necessary actions, such as pulling credit reports or sharing sensitive documents. Adhering to these principles not only fosters a professional relationship but also mitigates legal and reputational risks.
Packaging & Presentation Loan Summary
Packaging is where all of the early disclosures and verification work come to fruition. A well-prepared loan summary details the borrower’s profile, loan request details, and supporting documentation to the lender. The executive overview concisely outlines the borrower’s background, the purpose and amount of the loan, their key financial strengths, and any potential risks associated with the request, highlighting mitigating factors for risks and showcasing the borrower’s ability to meet obligations can strengthen the presentation.
Ensuring an organized and complete submission, including all required documents, is a primary reason borrowers need a loan broker when they’ve been previously denied financing. It demonstrates professionalism and expedites the underwriting process—ultimately increasing the likelihood of a successful outcome.
Put Due Diligence to Work for Your Clients
Although it may seem invasive to ask your clients for so much personal information, it is absolutely necessary to ensure that you are not spending time trying to secure financing for businesses that just aren’t qualified to repay a loan. Not only is due diligence a form of protection for you, the business loan broker, but it also protects your lenders. Performing due diligence on your end saves time and finances for the lenders and they will appreciate you vetting the borrowers before referring making introductions.
We talk a lot about the relationships that you are constantly nurturing as a business loan broker and this is no exception. Start every relationship with trust and validate that trust with proper due diligence.