The process of underwriting has historically included the evaluation of an individual’s financial data, with a strong emphasis on their credit profile. But not every person has a lot of credit-related data to assess, which can hinder them from ever being considered for a loan. In this post we discuss an alternative data source to credit history, cash flow, that could be utilized in the underwriting process.

‍

What is cash flow?

Simply put, cash flow is the record of the flow of money in and out of an entity (in the context of this article, that entity would be an individual’s bank accounts). Cash flow is the documentation of transaction data – what money comes into an individual’s accounts versus what goes out of their accounts. It also includes the current balances in an individual's accounts.

‍

What are the attributes of cash flow? 

Cash flow data includes every transaction occurring within a specified account. Cash inflow refers to every instance of money coming into the account, whether through paychecks, payments received from other people, or revenue acquired through other means. Cash outflow refers to all of the other transactions: regular payments out (like rent, credit cards, utilities, tuitions, etc.) and all other personal expenses. All of these transactions in and out can then be categorized with specific criteria to give a snapshot of an individual’s financial profile within the last 24 months.

‍

Can cash flow underwriting give accurate information about a potential borrower?

Although there hasn’t been a lot of research done yet to compare traditional underwriting risk accuracy with cash flow underwriting accuracy, the data that does exist is promising. In one assessment that was done, cash flow underwriting performed about equally as well as a traditional FICO score in predicting credit default risk. 

‍

Why include alternative data sources for underwriting? 

One of the main reasons cash flow underwriting is important is because it allows people without traditional credit history to still have a chance to be approved for loans that they wouldn’t have access to otherwise. Since a cash flow underwriting has the potential to predict an individual’s likelihood to make payments as accurately as traditional underwriting, more people gain access to loan opportunities, which is good for both that individual and loan providers.

‍

Which providers currently offer cash flow data and analysis?

Lots of new models that are designed to not only obtain cash flow data but also analyze it are being released right now. Three well-known companies we follow, Plaid, VantageScore, and Experian, have recently announced new cash flow analysis capabilities in their services. 

Major loan underwriting is currently not required to consider an applicant’s cash flow data, but since VantageScore and Experian are both adding cash flow analysis into their services and credit score models, it seems like it will soon be the norm for all credit reporting agencies.

‍

Learn more about underwriting and cashflow here and here.

‍

*read more about current government requirements for credit scores in mortgage underwriting here

‍