We have a practice at our bank that makes me very uncomfortable; however I'm not sure how big of a deal it is. Basically, when we have a customer wanting a loan for debt consolidation, we just cut them a check and leave it up to them to pay off what they said they were going to. Other banks I've been to actually send the payments or make the checks payable directly to the company.

My concern is that typically these are underwritten assuming they are paying off certain debt, but we don't actually confirm whether that debt gets paid off. Also, the customer doesn't actually put anything in writing regarding which debts they are paying off - it is just documented on the credit report by the lender. So, if they end up defaulting and we find out they didn't pay off what we though we were going to, we can't really go after them for fraud since they never put it in writing (correct?)

Do any other banks out there do it this way or see any problems with it? Thanks a lot!

I know few commercial banks that do much debt consolidation lending, as most times the borrowers are already in over their heads.

In the few instances that do, they always cut the checks directly to the other lenders. Many times it has to be accompanied by a letter from the customer closing the account, so they don't just re-max those credit vehicles.

It is pretty common for banks to pay off the debts being consolidated for the reasons you stated: certainty that the money is not diverted to other uses, invalidating the DTI scenario run.

This is true for consumer, small business, commercial.

The Banks that I know of have made sure to put it in their policy that the Lender will control disbursement on these type of loans to ensure items are paid. Disbursement should never be given to an individual.

A lot of borrowers state that the loan purpose is for consolidation. As a lender in the past my procedure was to determine if they needed to pay off the debt to qualify. If they needed to, then absolutely I paid off the debts directly. I also included a letter written and signed by the borrower requesting that the creditor close the account. However, if they didn't need to pay off those debts to qualify I would consider noting that in my summary and giving the proceeds to the borrowers.

Ditto trail hiker.

Excellent, thanks everyone!!