Subprime loans were synonymous with the Great Recession of 2008. Still, despite their nefarious reputation, subprime loan lenders are still operating but under more strict regulations to protect borrowers.
In the current economic crisis from COVID-19, it seems some institutions might choose to offer a “sliding scale” when it comes to the official guidelines.
“Subprime loans” now go by the term ”Non-prime” loans regulated by CFPB or Consumer Financial Protection Bureau. The rules they doled out comply with the Consumer Protection Act along with the Dodd-Frank Wall Street Reform.
What Is a Subprime Mortgage
The term “subprime” indicates the type of borrower that would benefit from this loan. They are of below prime rates — meaning their debt-to-income ratio is less than desirable and/or their credit score is below recommendations. This borrower is also one more likely to default on a loan compared to those at a prime rate.
These borrowers are a substantial risk to financial institutions leading to higher interest rates charged above the standard for prime loan rates based on the credit score, down payment, late payments, and delinquencies outlined on the credit report.
During the 2008 Financial Crisis, these loans were massively defaulted on causing significant crises not only in the mortgage arena but also in vehicles, and all other loan platforms.
What Is the History Behind Subprime Lending
After the economy went into recession, no one could get a loan who carried a credit score below 650. Once things started to stabilize in the country, the demand from consumers for financing gradually began to increase. Still, the lenders came back with strict guidelines meant to protect the lender and the borrower:
• A homebuyer should receive counseling using a representative that had U.S. Department of Housing and Urban Development Approval,
• Interest rate increases limited along with other terms of the loan, and
• Loans need proper underwriting.
These loans are much more expensive to obtain, with rates as high as 10% and the down payment climbing as much as 35%. But, this also decreases the chances of someone applying who is not going to follow through on the loan.
Those defending the comeback of these loans indicate that homebuyers are not tied to the excessive interest rates. If the borrowers prove their capacity for paying, which should elevate their credit score, they have the option of refinancing at a lower rate. Either that or people can’t afford the terms and default. It seems the latter is more prevalent.
Currently, financial institutions are loosening some restrictions to stimulate what looks like a hesitant economy.
What Is Happening Today
Today, in our uncertain economic times, financial companies like banks and credit unions are less concerned with risk and more willing to extend credit to those with lower credit scores and less than desirable income. Sounds familiar.
It seems there are predictions that mortgage lenders will loosen their loan standards within the current year, making it easier for borrowers to obtain loans regardless of bad credit as a means to offset what is a decline in affordable housing
Just looking at the housing market alone, the question being posed is, are they willing to drown in these, what some are deeming, “liar loans,” which can lead to another recession?
The consensus is that these, what are now “non-prime” loans, are beginning again to dominate in each credit-related industry. This means there is a need for people to be at least concerned for what is to come. The most significant contributor predicted for what lies ahead in the way of potential financial woes is the non-prime auto loan industry, which some say will ultimately lead to another crisis.
Despite what those that need to know are seeing on the underside, outward appearances show consumers continuing to indulge their impulses despite low credit scores.
Rejections for financing, including credit cards, mortgages, refinances, and other loan applications, are declining compared to previous years. Delinquency rates, though, are increasing steadily. But what does it do to the economy? It’s a formula that can only spell … 2008.