Lenders as Bomb Detonators

Special-finance auto lenders found themselves in a minefield 10 years ago when the nonprime and subprime markets became explosive.

After some good years, pitched competition triggered careless lending to car buyers with checkered credit histories. Such high-risk business behavior led to widespread loan defaults.

The ensuing blow up bankrupted some lenders and stunned many others.

“It was a really sad time,” Jim Bass, a special-finance veteran, said in 1999 as the loan industry was regaining its footings — and senses. Today, Bass and others at an F&I Management and Technology conference indicate special-finance is stable and active, with “B” and “C” level loans on the rise.

About 40% of U.S. consumers are nonprime and subprime, according to Fair Isaac Corp., developers of FICO credit scoring.

As special finance grows, lenders are staying apace. But they say they are keeping their wits about them, too, this time.

There are some risk trends of late. For example, cautious industry players and observers fret about ordinary car-loan terms pushing past 72 months — a potential sign of debt overload. Meanwhile, vehicle repossessions increased 5% to 1.41 million units last year after declines in 2005 and 2004, according to Manheim Consulting.

Subprime home mortgage lenders have tightened reins because of overextended credit in an overheated housing market. But many auto-finance operations, through acquisitions and internal initiatives, have broadened their business to greater emphasize special financing.

They say safeguards are in place to prevent a repeat of 10 years ago.

“The days of getting stuck with (bad) contracts and of (lending) establishments going out of business — that's not going to happen,” says Paul Rule, a business manager for Chase Auto Finance's Custom Vehicle Group.

Chase's special financing has grown 30%, he says. “We've liberalized our program a bit as we learned and as competitors forced us to.”

The nonprime market “is as financially stable as it's ever been,” with many lending agencies owned by “large, established institutions,” Rule says.

Publicly owned AmeriCredit Corp., a major subprime player, has been stepping up its loan activities in part to stay competitive.

“As the business grows, competition is greater than it has ever been,” says Kyle Birch, AmeriCredit's vice president of dealer services.

For some lenders, there are less distinct administrative lines between prime and nonprime, says Todd Cooper, vice president and lending manager for Wells Fargo Auto Finance.

“When a prime lender at Wells Fargo says no, and you go to the nonprime representative, it's the same person,” Cooper says.

Still, it's necessary to treat nonprime customers differently.

Birch says that means sometimes “cutting back a bit” on finance and insurance offerings at dealerships.

An F&I industry menu mantra is to offer all the products to all customers all the time. But Birch says offering top-of-the-line extended warranty packages and gap insurance may financially overburden some credit-challenged consumers.

“You don't want to make a payment too heavy for them,” he says.

Adds Bass: “You want to make sure you are not burying the customer with debt. You don't want to set up a loan default.”

Rule suggests if a borrower doesn't qualify for certain high-priced F&I products and services, “take them off the menu.”

Birch says dealers are trying to protect their interests “and we're trying to protect ours” by taking the necessary precautions against bad loans. Bass says publicly traded lenders such as AmeriCredit have a fiduciary duty to stockholders “to reduce losses.”

Lenders call on dealers to do their part to avoid loan defaults and vehicle repossessions. That includes forwarding accurate credit applications and requiring proof of employment.

“As long as a person has a viable job, we can work to keep that customer in a vehicle,” says Birch.

Cooper adds: “If dealers do all they can and forward completed loan applications, we'll work with them.”

In structuring higher-risk auto loans, lenders say they are trying to make it work for everyone involved.

Says Rule. “The dealers need to make a profit. We need to feel comfortable with a risk. The customer has to see value. We're trying to make everyone's life easier.”

Bass says training would go a long way in helping dealership personnel better understand special financing. It's a different world in many respects.

“In subprime, you work every deal uniquely,” says Birch.