The post-pandemic narrative about non-prime borrowers and their impact on the independent auto dealer goes something like this:
Federal stimulus monies during the pandemic artificially inflated disposable incomes and helped many consumers pay down debt and buy new and used cars. Supply chain snarls choked the availability of chips most vehicles depend on just as demand spiked for new personal transportation, leading to vehicle shortages. These factors drove auto prices and their corresponding loan payment amounts up. This is borne out by recent data from BankRate showing the average monthly payment on a used car loan was $503. Non-prime borrowers, a key customer segment of independent auto dealers for their used car inventories, took on higher loan payments and longer loan terms over the past two years using their federally provided stimulus monies.
With inflation at 40-year highs and double-digit price increases of necessities like food, gas, and rent, non-prime auto buyers are accruing more debt and getting behind on their mortgages and car payments. And that’s translating into increased vehicle repossessions and loan defaults that will ultimately hurt used car buyers and independent auto dealers.
Or will it? The opportunity exists to rewrite this narrative.
The Emergence of the Short-Term Non-Prime Consumer
One of the outcomes of our pandemic-led economic transformation is the creation of a new class of non-prime borrowers. These consumers have become non-prime for the first time, owing to factors already cited and, perhaps, job loss (willing and unwilling) and difficulty curbing spending as inflation rose. While it might be true that “traditional” non-prime consumers are caught in a cycle of ever-increasing personal financial stress, many among the new class of non-prime borrowers are not likely to remain non-prime for very long.
These new short-term non-prime borrowers have maxed their credit cards for the first time. Some are those who prematurely retired from the workforce during the pandemic and then rejoined it because inflation drove their living costs beyond what they anticipated. Others were caught unaware when the combination of food, fuel, and housing spiked. They now find themselves carrying a personally uncomfortable level of debt and they very much intend to pay it down using a combination of income and assets accrued over their lifetimes.
But a FICO score alone won’t help independent auto dealers identify or distinguish these potential customers. While helpful in ascertaining a consumer’s relationship with credit and debt, FICO doesn’t take into consideration current employment and income, personal assets, and other factors such as how consumers prioritize making payments for necessities such as food, shelter, internet, phone, transportation, and fuel. FICO provides a limited view, measuring credit risk only. It’s a one-size-fits-all, backwards-looking approach that doesn’t include the many forms of lending risk that need to be understood.
For independent auto dealers, FICO is the crutch that should have been kicked away a long time ago so they can not only walk but run.
A Better Way to Assess Loan Risks and Grow
There’s a much better way for independent auto dealers to assess customer lending risks and safely grow their businesses. New AI and Machine Learning tools allow independent auto dealers a more holistic view of their customer’s ability to successfully manage payments on their used car loan. Automotive data and consulting businesses offer these new technologies to empower independent auto dealers to improve the financial health of their business and reduce lending risks.
They can also help solve a historically difficult problem for these dealers: access to fair, competitively priced capital. Independent auto dealers who offer their own in-house financing need capital to grow, but their options for borrowing are typically limited to business loans with high-interest rates and requirements to pledge personal assets to secure them. These conditions get passed along to non-prime auto buyers as high-interest loans, further stressing non-prime’s typically fragile financial wherewithal.
New technology solutions for independent auto dealers, such as the crowdsourced non-prime auto securitizations we pioneered, combined with AI and Machine Learning, have proven up to 98% predictability of loan performance – a previously unattainable level of precision. These types of fintech solutions provide auto dealers ample affordable financing at significantly more reasonable rates and highly accurate loan performance data to help them safely grow their business and meet the needs of many more non-prime used car buyers. It’s a win-win for independent auto dealers who offer in-house financing and the many non-prime customers who need basic transportation to live and work.
The immediate future of independent auto dealers does not have to be one in which they limp along on insufficient, costly capital and rely on the limitations of FICO scores to assess loan worthiness. Nor does it have to be one in which vehicle repossessions and loan delinquencies further mar the auto industry. We can expect their businesses will run like athletes when they kick out the FICO crutch and adopt the new technologies and solutions that allow them to perform at their optimum level.
This, in turn, will result in a whole new class of used car buyers who, despite carrying the scarlet letter of a FICO score that deems them unworthy, will drive off the lot in their vehicle with payment and lending terms they can successfully meet.