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What is underwriting? A simple guide to a complicated process

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6 mins

Have you ever met an underwriter? Unless you work in the financial services or real estate industries, the chances are you haven’t. Underwriters are “behind the scenes” people that are indispensable to the companies they work for. What they do every day isn’t glamorous, but without them, the insurance companies and lenders you trust wouldn’t be in business very long.

In this article, we’ll look at what underwriting is, what an underwriter is and what they do, the different types of underwriters, and how their role differs from others in their industry.

Underwriting definition

What does underwriting mean? “Yes” or “No.” These two words encapsulate underwriting. Underwriting is the detailed analysis preceding an insurance policy's issuance, the granting of a loan, or the pricing of an initial public offering (IPO). Based on this analysis, a decision is made as to whether the financial risk to be assumed by a company is worth taking. It either is — or it isn’t. It’s a critical process with enormous financial ramifications for a company that will assume the risk.

There are three main players in the underwriting process:

  • The applicant
  • The underwriter
  • The company that hires the underwriter to assess whether or not to approve an application based on its associated risk level

For this article's purposes, we’re going to focus on the underwriter, which will help us better understand what the underwriting process entails.

What is an underwriter?

Simply put, an underwriter is an individual who works for a financial organization, such as a mortgage, insurance, loan, or investment company. Their primary function is to assess, evaluate, and make a decision concerning the acceptability of the risk of another party. If you’re working with an underwriter, you’re most likely seeking approval for insurance coverage or a loan for a large purchase, such as a home.

Each industry uses their own underwriters that must understand the intricacies of their specific field. Using their knowledge and expertise, the underwriter assesses the risk of an applicant. They determine if approving a loan or issuing an insurance policy will be to the financial benefit of their company. It’s an important decision for them because if the contract is too great a risk and the company incurs a loss, the underwriter is accountable for the loss.

Most underwriters have earned a bachelor’s degree and all have completed an in-depth training program. They typically have an academic major within the industry they specialize in. You’ll often see them having majored in finance, business, or economics.

What does an underwriter do?

To understand what an underwriter does, let’s look at an example.

An underwriter evaluating an application for disability insurance will review the applicant’s age, occupation, current health condition, and past medical history. Using this information, the underwriter enters the data into underwriting software, determining the premium amount and terms of the policy. Even though technology can be used to evaluate risk, the final decision ultimately rests with the underwriter.

The information submitted to an underwriter will pertain to the specific case. An underwriter for a health insurance company will review the application and medical records, whereas a loan underwriter will assess factors like income, credit history, and debt.

The different types of underwriters

Life, health, and disability insurance underwriters

Life, health, and disability insurance underwriters assess the risk of insuring an individual. They determine if the contract will be profitable for the insurance company. They consider if the applicant meets specific criteria for the type of insurance policy they’re applying for. They then establish the type of policy for which an applicant is eligible and the rates for that policy.

Insurance underwriters understand insurance risks and how to avoid poor risks. They’ll use their knowledge to determine if an applicant meets the insurer’s specific requirements for coverage.

In cases without exceptional circumstances, an automated system can be used. If there are special circumstances, an underwriter will evaluate the risk and decide if the insurer will accept the risk.

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Mortgage underwriters

Mortgage underwriters are commonly utilized in the loan industry. Even if an applicant for a home loan has an excellent credit history and income, underwriters must do a thorough risk assessment and confirm the applicant can manage the loan payment.

Underwriters may also review information specific to the lender, such as the number of mortgages the company has given out in a certain period and the dollar value of those loans. They also review the applicant’s overall savings, proof of steady income, credit score and history, debt-to-income ratio, and other essential factors.

If an underwriter denies approval for a mortgage loan, the applicant can appeal the decision, but the process can be lengthy, and it often requires that the applicant provide a large amount of evidence to overturn the decision.

Securities underwriters

Securities underwriters often work with IPOs. They assess the investment’s risk to determine an appropriate price for the initial offering. They are typically an employee of an investment banking firm or another specialist.

One of the most significant risks involved with securities underwriting is the sales period. If a security doesn’t sell for the suggested price, the investment bank is liable for the difference.

Underwriters aren’t agents or brokers

Agents and brokers are salespeople that sell you the product and may eventually relay the underwriter’s financial decision to you. They often have a basic understanding of the company’s underwriting policies and may provide you with some insight into what the outcome of your application will likely be. This information is valuable, but the underwriter has the final say.

How long does underwriting take?

The process's length will vary based on the underwriter, application volume, and how complex the case is. Realistically — it can take a few days or a few weeks. A lot depends on whether additional documents are required and if they need more information to make a decision. You can help shorten your waiting time for a decision by assisting the underwriter in getting all of the necessary information they need promptly, like medical records or income verification.

Underwriters play a vital role for financial institutions and consumers. Don’t hesitate to ask questions about the underwriting process during your talks with your agent, broker, or the company itself. The more you understand the underwriting process, the better off you’ll be in the end.

Having grown up in upstate New York, Bob Phillips spent over 15 years in the financial services world and has been making freelance writing contributions to blogs and websites since 2007. He resides in North Texas with his wife and Doberman puppy.

The information and content provided herein is for educational purposes only, and should not be considered legal, tax, investment, or financial advice, recommendation, or endorsement. Breeze does not guarantee the accuracy, completeness, reliability or usefulness of any testimonials, opinions, advice, product or service offers, or other information provided here by third parties. Individuals are encouraged to seek advice from their own tax or legal counsel.

— Published April 5, 2021
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