Auto loan financiers are beginning to adopt a practice from the housing industry that many say played a significant role in the meltdown of the housing market.
Buy Here Pay Here dealerships -- which issue loans to borrowers that often can't qualify for a traditional car loan and in many cases require the borrower to return to their lot to pay them off -- are packaging the loans and selling them to investors, the Los Angeles Times reports. The practice of packaging shoddy auto loans into securities and selling them to investors -- $15 billion worth in the last two years -- is reminiscent of a craze popular among mortgage lenders in the lead up to the housing and financial crisis.
The practice may become more prevalent as potential car buyers with poor credit find it easier to get loans. New car loans for buyers with credit below prime rating rose more than 20 percent in the second quarter of 2011 compared with the same period last year, according to the Automotive Credit Trends Report cited by Fox Business. The proliferation of easy access loans pushed the average credit score for new car loans down 10 points, the survey found.
In the immediate aftermath of the mortgage crisis, car loan financiers were initially scared off from loaning money to buyers with poor credit, according to Bankrate.com. In 2006, lenders approved more than 40 percent of auto loan applications for buyers with a credit score lower than 619; in December 2008, that number dropped to less than 5 percent.
But as the economy continues to slowly recover, auto loans to buyers with poor credit has gone back up. The number of car loans to applicants with a subprime credit rating shot up almost 60 percent in 2010 from the year before, according to The New York Times. Michael E. Maroone, the president of AutoNation, a national network of dealerships, told the NYT that the boost in auto lending is the biggest reason for the rise in car sales last year.
Big banks and lenders have faced criticism and lawsuits for their handling of mortgage-backed securities in the aftermath of the financial crisis. New York Attorney General Eric Schneiderman launched an investigation into Bank of America challenging the validity of thousands of the banks mortgage securities and foreclosures.
Banks have also been accused of pressuring clients with poor credit scores into taking on expensive home loans that they normally wouldn't qualify for. The Federal Reserve imposed a fine on Wells Fargo earlier this year for allegedly steering thousands of borrowers into more expensive subprime mortgages.
The crisis has pushed most banks and home lenders to tighten lending standards in the last few years. Financial firms made $4 billion off of home loans to applicants with poor credit, compared to $625 billion in 2005, according to Time.