While the credit purpose of ‘debt consolidation’ typically has lowest credit risk (and relatively lower interest rates), there is an increasing trend of borrowers ‘stacking’ multiple loans.
When borrowers engage in ‘stacking’ (i.e. taking a new loan to pay-off the first one), it is quite obvious that they are in financial hardship and consolidation of loans at lower rates is not serving its ‘credit purpose’. This financial hardship may or may not be immediately reflected in FICO scores. Also, what kind of online lenders engage in offering debt consolidation loans at rates > 20%? Are these truly debt consolidation loans, or ‘predatory lending’ practices?
For closed ended personal loans (as against extending credit through a revolving credit line), making such loans is a sure shot recipe for ‘adverse selection’. Clearly, the borrower in question is agnostic to the rate and more interested in the short term cash-flow that he can use to pay-off his previous loan. ‘Stacking’ is method used by needy borrowers to kick the can down the road, under the wishful thinking that a pay raise, bonus or even winnings from a lottery, hopefully in the next month or so, will take care of this problem. Furthermore, from an online lender’s perspective – is this screening for ‘stacking’ of loans a credit risk or an operational risk, given that there is an element of misrepresentation for the ‘purpose of the loan’ by the borrower?
While this is going to be a learning curve for newer online lenders, going back to the original question – where do ‘stackers’ go from here?
Well, there is a place that ‘stackers’ can go to. It’s called ‘Debt Relief or Debt Settlement’ programs.
Debt Relief programs are designed to help borrowers in need to re-negotiate their debt obligations and settle their debts for 40-50 cents on the dollar and may be a better choice than both credit counselling and filing for bankruptcy.
Debt Relief programs are ideal for consumers in the following circumstances:
- Outstanding revolving debt in excess of $15,000
- Inability to refinance these loans at rates < 20%
- Paying exorbitant rates of interest to ‘predatory’ lenders
- Agnostic to both interest rates and declining credit scores
- Living from paycheck to paycheck with no savings to draw from
- Falling behind on payments/ engaging in activities such as ‘stacking’
Debt settlement programs are great for consumers as they offer two major benefits:
- Provide immediate relief by lowering the amount of debt significantly
- Structure the settlement into an affordable payment plan that is fair and reasonable
For online lenders that are making ‘debt consolidation’ loans at greater than 20%, this may be a great ‘win-win’ situation too. Instead of writing off 100% of principal as ‘loss given default’ (which is inevitable), the settlement program could actually help with recovery rates.
Disclaimer: The views and opinions expressed in this article are solely those of the author. Examples of analysis performed within this article are only examples. They should not be utilized in real-world analytic products as they are based only on very limited and dated open source information.
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