New subprime boom ties risky loans to car titles

New subprime boom ties risky loans to car titles http://ift.tt/1znvb6X

New subprime boom ties risky loans to car titles

The rusting 1994 Oldsmobile sitting in a driveway just outside St. Louis was an unlikely cash machine. That was until the car's owner, a 30-year-old hospital lab technician, saw a television commercial describing how to get cash from just such a car, in the form of a short-term loan.

The lab technician, Caroline O'Connor, who needed about $1,000 to cover her rent and electricity bills, believed she had found a financial lifeline.

"It was a relief," she said. "I did not have to beg everyone for the money."

Her loan carried an annual interest rate of 171 percent. More than two years and $992.78 in debt later, her car was repossessed.

"These companies put people in a hole that they can't get out of," Ms. O'Connor said.

The automobile is at the center of the biggest boom in subprime lending since the mortgage crisis. The market for loans to buy used cars is growing rapidly.

And similar to how a red-hot mortgage market once coaxed millions of borrowers into recklessly tapping the equity in their homes, the new boom is also leading people to take out risky lines of credit known as title loans.

They are, roughly speaking, the home equity loans of subprime auto. In these loans, which can last as long as two years or as little as a month, borrowers turn over the title of their cars in exchange for cash — typically a percentage of the cars' estimated resale values.

"Turn your car title into holiday cash," TitleMax, a large title lender, declares in a recent television commercial, showing a Christmas stocking overflowing with money.

More than 1.1 million households in the United States used auto title loans in 2013, according to a survey by the Federal Deposit Insurance Corporation — the first time the agency has included the loans in its annual survey.

Title loans are becoming an increasingly prevalent form of high-cost, short-term credit in subprime finance, as regulators in a number of states crack down on payday loans.

For many borrowers, title loans, also sometimes known as motor-vehicle equity lines of credit or title pawns, are having ruinous financial consequences, causing owners to lose their vehicles and plunging them further into debt.

A review by The New York Times of more than three dozen loan agreements found that after factoring in various fees, the effective interest rates ranged from nearly 80 percent to more than 500 percent. While some loans come with terms of 30 days, many borrowers, unable to pay the full loan and interest payments, say that they are forced to renew the loans at the end of each month, incurring a new round of fees.

Customers of TitleMax, for example, typically renewed their loans eight times, a former president of the company disclosed in a 2009 deposition.

And because many lenders make the loan based on an assessment of a used car's resale value, not on a borrower's ability to repay that money, many people find that they are struggling to keep up almost as soon as they drive off with the cash.

As a result, roughly one in every six borrowers who take out title loans have their cars repossessed, according to an analysis of 561 title loans by the Center for Responsible Lending, a nonprofit in Durham, N.C.

The lenders argue that they are providing a source of credit for people who are unable to obtain less-expensive loans from banks. The high interest rates, the lenders say, are necessary to offset the risk that borrowers will stop paying their bills.

Title loans are part of a broader lending boom tied to used cars. Auto loans allowing subprime borrowers — those with credit scores at 640 or below — to buy cars have surged in the last five years.

The high interest rates on the loans have enticed an influx of Wall Street money. Private equity firms are investing in lenders, and some big banks are ramping up their auto lending to people with blemished credit.

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