Why lenders use a due diligence checklist
Lenders use a standardized checklist to reduce underwriting time, ensure regulatory compliance, and identify material risks before a credit decision. A checklist creates repeatable processes across loan officers and credit committees and helps lenders document the basis for credit approvals or denials (important for regulatory exams and audit trails). As a borrower, providing a complete packet aligned with a lender’s checklist shortens negotiation cycles, lowers information risk, and may improve loan pricing.
How the checklist fits into the loan process
A due diligence checklist typically appears after the loan application and credit memo stages and before final credit committee approval and documentation. Key stages include:
- Initial application and term-sheet (pre-screening)
- Document collection and verification (where the checklist is used)
- Underwriter analysis and risk rating
- Credit committee review and approval
- Loan documentation and closing
Typical timing from full submission to committee decision is 2–8 weeks for well-prepared commercial loans; poorly prepared files can add months.
Core sections of a lender due diligence checklist
A practical checklist groups items into logical categories. Below are standard sections lenders expect to see:
- Borrower identity and structure
- Entity formation documents (articles/organization, bylaws/operating agreement)
- Ownership and control matrix (including UBOs)
- Federal EIN and state registrations
- Financial performance and projections
- Historical financial statements (typically 3 years; audited if available)
- Interim financials (latest monthly or quarterly)
- Tax returns (business and owner personal returns for guarantors)
- Cash‑flow analysis and 12‑ to 24‑month projections
- Collateral and valuation
- Appraisals or market valuation reports for real estate
- Equipment lists, serial numbers, and invoices
- UCC‑1 searches and proof of lien status
- Insurance coverage and loss payee endorsements
- Legal documents and litigation
- Material contracts (customer, vendor, lease, franchise, licensing)
- Loan payoffs and existing debt schedules
- Litigation reports and letters from counsel
- Environmental reports (Phase I/II as required)
- Management and operations
- Resumes for key executives
- Organizational chart and key‑man dependencies
- Customer concentration analysis
- Supplier agreements and supply‑chain risk
- Compliance and regulatory
- Licenses and permits
- AML/KYC documentation and beneficial ownership information
- Industry‑specific compliance (healthcare, food, regulated utilities)
- Covenants, pricing and exit
- Proposed financial covenants (DSCR, debt/EBITDA, current ratio)
- Pricing formula, fees, and amortization schedule
- Exit sources (sale, refinance, cash flows)
Document‑level checklist (practical printable items)
Below is a concise, lender‑focused list your borrower should prepare to avoid delays:
- Business formation documents and ownership list
- Last three years of audited/unaudited financials
- Most recent interim financial statements and reconciliations
- IRS business tax returns (last 2–3 years) and evidence of tax compliance (IRS transcripts if requested)
- Personal tax returns for owners/guarantors (last 2–3 years)
- Current accounts receivable and payable aging reports
- Cash‑flow forecast (12–24 months) with assumptions
- Business plan or use‑of‑proceeds memo for the loan
- Material contracts and customer purchase orders
- Real estate appraisal (if property collateral) and environmental reports
- Equipment invoices, titles, and UCC search results
- Insurance certificates and lender loss payee endorsements
- Litigation/legal letters and disclosure statement
- Copies of prior loan agreements and payoff statements
In my practice, I created a cover checklist that maps each requested item to a file tab and a single page summary. This single‑page index saves underwriters 10–20 minutes per file and often shortens conditional approval cycles.
Red flags lenders look for
Lenders screen for items that materially change risk. Common red flags include:
- Inconsistent or missing historical financial data (gaps in statements or reconciling items)
- Significant undisclosed related‑party transactions
- Large customer concentration (single customer > 25–30% of revenue)
- Uninsured or inadequately insured collateral
- Environmental issues on real estate or specialty assets
- Material litigation or undisclosed contingent liabilities
- Weak free cash flow relative to scheduled debt service
- Prior defaults, bankruptcies, or tax liens
Recognize these early and prepare explanatory notes and supporting documents; transparency often mitigates concerns.
How lenders verify information (due diligence methods)
Lenders use multiple verification steps beyond document review:
- Third‑party validations: appraisers, environmental consultants, and valuation experts
- UCC and court records searches for liens and judgments
- Bank account verification and cash‑flow testing (bank statements and deposit testing)
- Reference checks with major customers or suppliers (when material)
- Background checks and adverse media searches on owners
Regulatory requirements (e.g., CIP and beneficial ownership rules) require identity verification and AML checks (see Consumer Financial Protection Bureau guidance and FinCEN rules) CFPB (FinCEN guidance on BOI). For tax compliance checks, lenders may request IRS transcripts or rely on borrower‑provided returns as part of the verification process (IRS.gov).
Pricing, covenants and negotiation points
A strong, organized package gives borrowers leverage to negotiate pricing and covenants. Lenders assess:
- Debt service coverage ratio (DSCR) and interest coverage
- Leverage ratios (total debt/EBITDA)
- Collateral coverage and liquidation value
- Guarantor strength and enforceability
If you anticipate covenant negotiation, provide covenant testing schedules and sensitivity analyses showing covenant compliance under downside scenarios. Lenders will expect clear triggers and remedial plans.
Sample timeline and expectations
A well‑organized submission to a regional bank or commercial lender often follows this timeline:
- Day 0: Term sheet signed and checklist provided
- Days 1–7: Borrower compiles documents and returns full package
- Days 7–14: Lender verification (credit checks, basic searches)
- Days 14–28: Third‑party appraisals and specialist reports completed
- Days 21–35: Underwriter analysis and credit committee review
- Days 35–60: Documentation, closing conditions and funding
Smaller loans to community banks or SBA‑backed loans may follow a similar cadence but expect longer times for SBA packaging and approval.
Preparing your application — borrower checklist tips
- Start early: Assemble tax returns, bank statements and signed authorizations well before applying.
- Use tabbed binders or a clearly labeled digital folder (file names and an index help reviewers).
- Include explanatory memos for any irregularities (e.g., one‑time write‑offs, owner distributions).
- Engage a CPA for financial statements and a qualified appraiser for collateral.
- Confirm insurance policies name the lender as loss payee and provide evidence.
Related resources from FinHelp.io
- For insight into what underwriting teams examine, see our guide on what underwriters look for in small business loan applications.
- For collateral valuation and appraisal expectations, read our article on the role of collateral appraisals in loan decisions.
- To understand covenants that lenders may require, review Loan Covenants Demystified.
Professional tips and common borrower mistakes
- Don’t wait for the lender to ask for documents. Anticipate requests and submit a complete package.
- Avoid last‑minute changes to financials; frequent revisions undermine credibility.
- Don’t over‑promise in projections—use conservative, supportable assumptions.
- Attach reconciliations where numbers differ between tax returns and financial statements.
Frequently asked questions (brief)
Q: How many years of financials do lenders want?
A: Typically three years; some lenders will accept two for newer businesses, but the more historical data, the better.
Q: Will lenders verify my personal accounts?
A: Yes, for guarantors and owners lenders often request personal tax returns and bank statements and run credit checks.
Q: Do I need audited statements?
A: Not always, but audited or reviewed statements strengthen larger or more complex loan requests.
Sources and authority
- Consumer Financial Protection Bureau (CFPB): guidance on lending practices and borrower protections (https://www.consumerfinance.gov).
- U.S. Small Business Administration: loan programs and documentation expectations (https://www.sba.gov).
- Internal Revenue Service: tax transcripts and business tax filing guidance (https://www.irs.gov).
Professional disclaimer
This article is educational and reflects common lender practices as of 2025. It is not legal or financial advice. For personalized guidance on a specific loan, consult your attorney, CPA, or loan officer.
If you’d like, I can convert the document checklist into a printable one‑page PDF or a lender‑friendly cover sheet tailored to your loan type (real estate, equipment, or working capital).
