Eight months into the Non-Prime Auto Lending (NPAL) pilot, none of the participating credit unions has had to write off a single loan, according to the program's consultant.

Created by Filene Research Institute and the National CU Foundation, the NPAL pilot kicked off in April 2014 and is slated to run through June 2015.

"We currently have a total $34 million in the portfolio — comprising 2,543 loans — and 12 credit unions offering this program," said Cynthia Campbell, Filene's director of impact and labs, who leads the auto loan pilot project.

The participating CUs are: USFCU, Burnsville, Minn., $970 million in assets; Seasons Credit Union, Middletown, Conn., $146 million; Missoula Federal Credit Union, Missoula, Mont., $399 million; CALCOE Federal Credit Union, Yakima, Wash., $26 million; EECU, Fort Worth, Texas, $1.6 billion; Laramie Plains Community Federal Credit Union, Laramie, Wyo., $41 million; Shreveport Federal Credit Union, Shreveport, La., $100 million; University Credit Union, Austin, $1.8 billion; Denver Community Credit Union, $267 million; Freedom First Credit Union, Roanoke, Va., $355 million and School's First Federal Credit Union, Santa Ana, Calif., $10.4 billion.

Two other credit unions — Cy-Fair Federal Credit Union (Houston, $195 million) and Soo Co-Op Credit Union (Sault Ste. Marie, Mich.; $152 million) — dropped out of the program due to their other priorities, Campbell said.

A spokesman for one of the participating credit unions, CALCOE, told Credit Union Journal that its nonprime loans are "performing well."

"We have gained many new members with this program, but also some current members have participated in the program, as well," said Ryanne Nesary, adding that CALCOE has issued about 295 such loans since inception.

CALCOE also is partnering with Filene to introduce a program called LIFT, or Lower Interest Rate for Timeliness program, under which credit-builder borrowers who make on-time payments for 18 consecutive months may be eligible to reduce their interest rate by 3% APR. "We are just starting to get eligible members at this point in time and are very excited to see how members can benefit," Nesary said.

Campbell noted that "non-prime" is a somewhat fluid concept since most credit unions and financial institutions employ their own criteria and definition of creditworthiness — but generally anything less than a 600 FICO credit score is considered "below-prime" or "non-prime." As such, the average credit score of members participating in the non-prime loan program comes in at 585.

The vast majority of these loans are being used to purchase "reliable" used cars, Campbell stated, although participating credit unions will loan on both new and used cars. The average loan is currently valued at $11,900, while the average term is 50 months (a little more than four years). That term is actually shorter than for the conventional prime auto loans, given the age and condition of most automobiles purchased through these non-prime loan arrangements.

While loan pricing is left up to each individual credit union, Campbell indicated that on average the interest rate for this portfolio is 11.63%--ranging from a high of 16% to a low of 9.11%. In comparison, borrowers with perfect credit who apply for prime auto loans generally tend to pay an interest rate of 3% to 4%.

Of course, most lenders, including credit unions, need to charge higher interest rates for non-prime loans since they pose higher risks of delinquency and loss.

But NCUF explained that when using a risk-based pricing strategy, credit unions usually discover that even with higher servicing and loss expenses, their net spread is higher than loans made to borrowers with strong credit.

Also, given that these non-prime loans are geared for high-risk customers with low income, they carry a different underwriting style, Campbell said.

"For many [consumers] with low credit scores, they are used to shopping at so-called ‘Buy-Here-Pay-Here' car lots where the interest rate can be as high as 25% or even more," she said. "So, they know they have a better chance with a non-prime auto loan with a credit union."

Mark Lynch, a consultant at NCUF involved with the NPAL program, told Credit Union Journal that the key differences in the underwriting criteria for non-prime loans include a consideration of the history of their relationship with the credit union, a good payment history on auto loans, if the member needs this car to get to work, stable employment and residence and payroll/automatic payment features.

"The other key components of the non-prime auto loan program include focusing on the closing discussion with the member or what is referred to as the ‘hard close' and a greater focus on monitoring and collections practices," he said.  "In some credit unions this includes the use of a disabling and tracking device [which can shut the car down when such loans are delinquent]."

For example, with a non-prime auto loan, collections will occur on the first day that a customer is late with payment, not five to ten days later as with traditional car loans, Campbell noted.

While the auto loan program has already exceeded some of its initial targets — a dozen credit unions participating (versus five as originally envisioned) and 1,000 loans (versus almost 2500 loans now in circulation) — the success of the project cannot be determined until the initial phase expires next June.

"We are looking to study demand, profitability, scalability, and consumer impact," Campbell said. "If we find that these loans have led to too many charge-offs, we might not seek to continue with it. But if delinquencies are low, we may have found a good way to provide something as crucial as a vehicle loan to a very under-served segment of the population."

If the program is a success, it is expected that more credit unions will be encouraged to join in and offer non-prime auto loans. Data from NCUF revealed that the market for such a product presents a potentially huge opportunity for credit unions — of the 8 million used cars sold annually to low- and moderate-income borrowers, credit unions financed only 5% of those vehicles, while sub-prime lenders financed about 60%.

NCUF estimated that if credit unions loaned to those members with credit scores below 600, their market share would expand by 15%. If they had made such loans to members with no credit scores, their market share would surge by 40%.

Lynch estimates about 100 credit unions around the country are already offering non-prime auto loans to members. "Some of them were likely inspired by our pilot program, which has been in discussion for about six years," he said.

With respect to US Federal, the latest entrant to the NPAL program, Lynch said that they are just now commencing with their non-prime auto loan program, but had been developing their program over the last six months "based on all the information we gave to them."

In a statement, USFCU said that providing access to an affordable auto loan "can help to improve the economic well-being of those in the Greater Twin Cities Community."

USFCU said it is planning to finance vehicles valued at between $5,000 and $20,000.

"I think that it is fair to say that US Federal considered all aspects of the non-prime auto lending program before coming up with a program that will best fits the needs of their members," Lynch noted. "From my experience, for a program like this to be successful, it requires the support of the board, senior management, lenders and collectors."

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