Lenders Leverage Alternative Data For Underwriting

October 27, 2022

Researchscape unveiled The State of Alternative Data in Lending that provides an inside look into how lenders are currently using alternative data in underwriting, the market’s perception of this growing trend and the untapped potential for improved underwriting. The report, which is based on a survey of 185 decision makers in the lending industry, found that three-quarters (74%) of lenders believe traditional credit report data does not paint the most complete picture of consumer credit worthiness, with most (59%) now turning to various forms of alternative data in their underwriting process to fill the gap.

Traditional credit underwriting practices, which rely heavily on credit bureau reports, have unintentionally excluded millions of consumers from credit and financial services. These consumers are not excluded because they are high risk, but because the current system has gaps in their complete financial background and simply cannot assess potential risk properly. Over the past decade, the credit risk industry has taken small steps towards more inclusive underwriting that incorporates alternative data—such as cash flow, rent payment and utilities—to provide an enhanced view of consumer affordability, likelihood to pay and both immediate and long-term risk.

The majority of lenders surveyed have started considering cash flow data in the past two years, representing a shift in how they think about underwriting models and the benefits of consumer-permissioned data. This also indicates that the industry is on the precipice of major change, with 65% of lenders believing the industry as a whole will be ready to adopt alternative data within five years. This is likely because 90% of lenders see alternative data as having the potential to help their organization access new consumer segments or paint a more holistic view of consumer credit risk.

Key findings include:

Alternative data can complete the picture, but lenders are not tapping all sources: While more than half of lenders are tapping sources like non-transaction checking account data (64%), employment/income verification data (67%) and cash flow or bank transaction data (57%) to help complete their view, utility, rent payment and deep subprime data are highly underutilized (all cited by less than 40%).

Lenders are using alternative data sources to create more opportunities for data-driven decisions, but additional opportunities exist: While 50% of lenders are using alternative data to improve the predictability of underwriting processes, not enough lenders are taking advantage of its ability to reach new audiences—a motivator in only 27% of lenders.

Adopting new data is a strategic priority, but cost and integration remain top concerns: Nearly 1 in every 4 lenders (23%) noted adopting new data sources for credit risk assessment as a strategic initiative for their organization, second only to new geographic market expansion (25%). However, nearly 50% of lenders indicate reliability and/or stability of alternative data sources has been a top concern impacting alternative data adoption and 30% cite associated costs for such data and analytics as a top concern.

“The lending industry is on the precipice of major change, coming to terms with outdated underwriting processes and seeing opportunity with new data sources that will help them improve predictably, reach new customers and grow even in the face of economic uncertainty,” said Misha Esipov, co-founder and CEO of Nova Credit. “This research underscores Nova Credit’s long held belief that alternative data sources are the path to creating a more fair and inclusive credit reporting system and it is rewarding to see progress being made in the industry to do just that.”

Nova Credit commissioned the survey with independent research firm Researchscape, which surveyed 185 decision makers in the lending industry in October 2022. They represented banks, credit unions, lending fintechs and auto lenders in the U.S.