Beware of ‘bad credit’ loans

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In the responsible lending code (June 2017) it is suggested that one role of a responsible lender is to “assess whether a borrower will make repayments without substantial hardship, the lender should conduct more detailed inquiries for products or borrowers where the consequences of default are serious or there is a greater risk of default.”

Unfortunately this seems to be at odds with a great deal of the lender behaviour displayed by information that is in the market as of writing this article.

Just this evening while scrolling through Facebook’s marketplace looking at cars that my wife will never let me buy, I have seen three posts advertising “quick and easy” auto loans specifically encouraging “beneficiaries with bad credit” to apply for loans – and that was over a 30 minute period.

In the past I would have thought that these “Bad Credit” loans would be for small amounts. And surely they would not have been for people with really bad credit, ie outstanding debts. But after being involved in more than 300 repossessions, hundreds of investigations and consulting to numerous financial institutions, the things I have seen have proven that assumption is untrue.

I have seen $10,000-plus loans given to applicants with no job, numerous outstanding loans and in several cases court judgments for fraud involving accessing credit. When I say bad credit, I am talking about credit scores of 180 out of 1000. To put that in perspective, such a rating gives an approximate 18 percent likelihood of the applicant paying the debt based on their five-year credit history.

Now I know that this looks bad from the lender’s perspective. But it can be just as bad or worse from the borrower’s perspective and can lead to severe hardship.

You are considered insolvent when you are unable to pay your debts when they fall due. The very fact that applicants have unpaid debts when they are granted additional credit means, in my opinion, that a current insolvency is being made worse and the chances of the applicant becoming debt free is once again reduced.

Although many reputable lending institutions have software and strict processes for determining affordability ratios, there are quite a few lenders that rely on the applicants’ own supplied information or the information passed on to the lender via a finance broker who receives a fee for each successful loan drawn down.

Readers may think it doesn’t really matter because if the loan is secured against a car, then the lender can simply repossess it and sell it to recoup their money.

Not so. The following is a real situation that proves why this is not always the case. A debtor financed a car for $10,000 from a yard with a $200 loan establishment fee, plus a $1200 mechanical warranty. The debtor made none of the agreed $193 weekly payments, damaged the car while drink driving, and after three months the car was repossessed, incurring around $1500 in repossession, storage, default and admin fees.

The car was auctioned and sold for $3450 (the word repossessed in an auction or listing generally halves the value to a buyer) minus a $500 + GST commission to the auction house giving a net result of $1375 from an outlay of $11,400 paid by the lender.

The debtor is technically liable for the $10,025 but in this case the debtor applied for a NAP (no asset procedure) and the debt was legally wiped, leaving the lender out of pocket with absolutely no chance of ever being paid.

We are also seeing a resurgence in debt consolidation loans that promise to get people “debt free faster”. These are great when the original contracts allow for an early repayment without penalty or a low early repayment fee.

If not, the applicants can often find themselves paying back a good portion of the interest payable on the original loan as well as the interest on the consolidation loan, in addition to any loan establishment fees.

As with any agreement, the Devil is in the detail, but having one payment rather than several looks so attractive to people that may be struggling, that they compound the problem rather than alleviating it. Just a thought.

NICK KERR

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Nick Kerr

Nick Kerr is Area Manager BOP for EC Credit Control NZ Ltd. He can be reached at nick.kerr@eccreditcontrol.co.nz

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