In Finance, what is an Adverse Action?

An adverse action, as understood in the world of finance, is any type of activity that prevents an individual or business from obtaining some type of requested financial benefit. Actions that fall into this category include the rejection of an application for credit or a loan, the denial of insurance coverage, or even the dismissal of an application for employment. In most cases, an adverse action must comply with governmental regulations that are currently in effect in the jurisdiction where the request is made.

The idea behind the concept of adverse action is to provide a measure of protection for all parties involved in a potential transaction. In the case of the extension of a line of credit, governmental guidelines regarding the denial of credit make it possible for lenders to reject any applicant that does not meet their criteria for acceptance into their programs. The rejection must be based on hard facts. As an example, if an individual submits an application for a credit card, and the issuer of the card finds that the applicant has a credit score below a certain level, the application is highly likely to be rejected. This is because the applicant presents a financial risk that is more than the lender is willing to assume.

Adverse action also helps to protect the interests of the applicant. When an application for credit or insurance is rejected, the provider is required to tell the applicant why he or she was not accepted into the program. In the case of a rejected credit card application, the card issuer will inform the applicant of issues found on his or her credit reports, citing the lack of a minimum amount of regular income, or whatever other factor may apply. This allows the individual to be aware of issues that may negatively impact his or her ability to obtain credit in the future, and take steps to correct the problem.

The same general approach to adverse action applies in situations involving employment. When a prospective employer chooses to reject an application, the requirement in many countries is that the employer must provide a reason for the action. The action may have to do with the discovery of information omitted from the application, a poor credit rating, a criminal record, or any other factor that renders the applicant as less desirable than other applicants who are also seeking the same position. As with the rejection of applications for loans and credit cards, adverse action with employment applications provides the applicant with the chance to understand why he or she is not being hired, and take action in the future to minimize or eliminate those impediments to securing employment.