During the corona crisis, banks sharply cut back on lending to American consumers. One reason: they no longer know who is creditworthy.
Millions of Americans are out of work and behind in their debts. But in many cases, the missed payments are not reflected in their credit scores, nor are they uniformly recorded in borrowers’ credit reports.
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The confusion stems from a provision in the government’s corona stimulus package. The law says that lenders that allow borrowers to defer their debt payments cannot report those payments to credit reporting companies so late. From March 1 to the end of May, Americans delay debt payments on more than 100 million accounts, according to credit reporting agency
a sign of widespread financial distress.
The credit blind spot has further clouded the outlook for lenders. For years, strong consumer spending and borrowing helped them turn a profit. Now the economy is in ruins, and they’re trying to figure out what’s going to happen to all… the debt Americans have built up in better times.
Lenders who have a hard time spotting risky loan applicants are less likely to approve borrowers for credit cards, auto loans and other consumer debt. They are also looking for new datasets that can indicate who is in financial trouble and how much to set aside to cover soured loans. The Federal Reserve said last week that the largest US banks could be saddled with as many as… $700 billion in loan losses in a prolonged downturn.
“Without accurate information, their only option is to pull out on credit,” said Michael Abbott, North America chief banking officer at consultancy.
PLC. “Banks don’t know who will pay and who won’t. It’s like flying blind into a credit storm.”
Banks started tighten their acceptance standards in March, as the first wave of layoffs from the coronavirus began.
In early April, 33% of banks that responded to the Federal Reserve’s senior loan officer survey said they had increased their minimum credit score requirements for credit cards in the past three months, up from 14% in January. Bank respondents tightened lending standards for all consumer loan categories covered by the survey.
Loan emergence has declined, reflecting both tightening and the decline in consumer demand. In the week ending May 10, an estimated 79,000 personal loans were made, compared to 226,000 in the week ending March 22,
The onset of auto loans and leases fell from 390,000 to 266,000 over the same period. The total number of general purpose credit cards was 483,000, down from 856,000. In 2019, weekly card productions rarely dropped below 1.2 million.
According to people familiar with the matter, lenders have asked some credit reporting companies to remove borrowers in deferral programs from recruiting lists for credit cards and other loans. About 74 million credit card requests were sent in May, compared to 316 million in February, according to Mintel Comperemedia. The number of personal loan applications sent by mail fell by more than half over the same period to 84 million.
“Banks are looking very carefully at their underwriting models to see if they need to be adjusted to account for latent risks,” said Rob Strand, senior economist at the American Bankers Association.
Prepandemic, procrastination wasn’t much of a problem for banks. They were rarely used for most types of consumer debt and were usually limited to areas affected by natural disasters. Now a staggering number of consumers in the US are in deferral or other refund programs, leaving banks to question whether the credit scores and reports they’ve relied on for decades reflect the applicants’ true level of risk.
Lenders record that information in borrower credit reports in various ways. Boxes marked on time or late are left empty by some lenders. Some apply codes next to debt accounts that indicate the borrower has procrastination or forbearance. Others use codes for natural disasters.
In addition, lenders can’t tell whether a deferred borrower has gotten into tough times or is simply taking advantage of lenders’ opportunities.
Natural disaster tolerance and codes “were really designed for acute situations,” said Curt Miller, executive vice president of credit risk solutions at TransUnion. “If you look at what happened, it’s so broad and widespread that there’s nothing in the system designed to say 100 million accounts have this status.”
Lenders are looking for data that will help them figure out which applicants are a safe bet and who is likely to run into financial trouble.
They are also considering using unemployment data — such as cell phone records showing visits to unemployment bureaus and benefits data — which could help them figure out how to account for future losses on loans, according to people familiar with the lenders’ discussions. . Some banks are reviewing cash flow in deposit accounts to get a better idea of the risk lurking in their loan books, the people said.
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Credit reporting companies are in talks with lenders about additional data sets that can help identify hidden risks. The talks are also about locating applicants who don’t meet lenders’ credit score limits, but who are likely to repay their loans.
Honest Isaac Corp.
, the creator of the widely used FICO credit scores, is rolling out an index that will appear alongside loan applicant scores and inform lenders how likely the applicant is to endure financial hardship during the downturn.
“It gives [lenders] that extra filter of how someone handles an economic downturn,” said FICO chief executive Will Lansing. “The increase in approvals will be greater than the increase in rejections.”
Equifax said more lenders are asking for information about how consumers manage their bank accounts and whether they are pay bills that are not on their credit report on time, to help determine whether you need to approve them. (Lenders must obtain approval from applicants before getting the information.)
PLC sells lenders a scenario planning tool that uses metro-level economic data, such as unemployment rates and household debt, which can help predict lender credit losses.
TransUnion recently began selling data to help lenders determine whether consumers have been affected by the pandemic, including data on people who have received deferment or other assistance. That information cannot be used to deny an individual credit.
The coronavirus has “overturned existing models,” said TransUnion’s Mr Miller.
Write to AnnaMaria Andriotis at email@example.com
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