Subprime lending could lead to under-collateralization, or ‘underwater loans’
Scottsdale, AZ (PRWEB) October 19, 2012
The percentage of new auto loans to subprime borrowers, or those with a VantageScore® lower than 700, increased by nine percent in the second half of 2012, as TransUnion reported.
While a slew of analysts may attribute the positive lending arena to timely payments or increased awareness, consumers - and the economy as a whole - may still have cause for concern, as Auto Loan USA found.
“Subprime lending could lead to under-collateralization, or ‘underwater loans’,” said Mitchell D. Weiss in an interview with Auto Loan USA. Weiss a professor of finance from the University of Hartford and former bank executive officer.
Underwater loans, according to Weiss, occur when the amount owed is greater than the asset being financed is currently worth.
Although the current lending climate appears bright, are Americans simply experiencing the calm before a debt disaster storm?
A Change of Pace for Auto Loans
While the auto industry may be experiencing smooth sailing with the shift towards subprime auto loans, many experts warn of the consequences a laissez-faire lending market might bring.
If a borrower is looking to stretch an auto loan with a shortened monthly payment, the space for depreciation and under-collateralization widens.
“Should the value of the car decline more rapidly than expected, and should the borrower need to trade-in or sell the car sooner than expected, the borrower may find themselves in the position of having to come up with additional dollars to pay off the lender,” Weiss went on to state.
Poor-credited borrowers who are overzealous to finance a vehicle beyond their means may find it increasingly difficult to keep the loan above water.
Ultimately, the chance for underwater auto loans will require increased consumer awareness when purchasing a vehicle. Buyers will need to accurately gauge how long they intend to keep their cars, as well as the rate at which the car’s value might decline.
While those with poor credit may find the conditions are easier to obtain and auto loan, it doesn’t necessarily mean that they should, considering the risk of under-collateralization.
“It is never advisable for someone with bad credit to stretch out the term of their car loan, even if it lowers the monthly payment,” said Andrew Schrage, co-owner of Money Crashers Personal Finance. “Instead, you should make changes to your spending habits in order to afford a higher monthly payment for a car.