Credit risk is the risk associated with an investment where the borrower is not able to repay the amount to the lender. This can happen on account of poor financial conditions of the borrower, and it represents a risk for the lender. The risk is for the lender to incur loss due to non-payment and hence disruption of cash flows and increased collection costs. The loss may be complete or partial. There are multiple scenarios in which a lender can suffer loss. Some of the scenarios are given here:
A customer not making a payment on a mortgage loan, credit card, line of credit, or other type of loan
Business/consumer not paying due trade invoice
A business not paying an employee's due earned wages
A business/government bond issuer not making payment on a due coupon or principal
An insurance company not obliging its policy obligation due
A bank not returning funds of depositors
It is a practice of mitigating losses by understanding the adequacy of a bank's capital and loan loss reserves...
