Installment loan: everything old becomes new again
The BNPL is not the only borrowing tool resurrected from the banking annals. This time it’s installment loans. Much like Buy Now, Pay Later revamped models inherited from GE Credit and Household Finance, installment loans are making a comeback. Installment lending was the only game in town until credit cards became the preferred lending and borrowing product in the 1980s.
“Lenders want to resume building their loan books that were destroyed during Covid”, At Citigroup Inc., U.S. balances in personal loans and other unsecured installment loans increased 75% in the first quarter of 2022 compared to the same period a year earlier.
Wells Fargo & Co. issued $798 million in new personal loans in the fourth quarter of 2021, up from $294 million a year earlier and $708 million in 2019. SoFi launched a record $1.6 billion of personal loans in the fourth quarter of 2021, up from $614 million and $801 million, respectively.
Installment loans tend to be cheaper for consumers, but they are structured differently from revolving credit. According to the Federal Reserve, the average personal loan rate for a 24-month installment loan in February 2022 was 9.41%, compared to 16.17% for a credit card.
Credit cards require lenders to be prepared for the consumer to use all or part of their line of credit, although people tend to use only 25% of their line of credit. This operational cost, coupled with the risk of point-of-sale fraud and slightly higher credit loss rates, drives up the cost of revolving credit.
With a credit card, the consumer can balance his budget. They might need to access credit for a month and then repay quickly. Installment loans fit well into a budget, but they tend to be for targeted events, such as consolidating credit card debt, paying for a vacation, or a family event.
In a recent Mercator report, we noted that fintechs were supplanting financial institutions as the top lending group for installment loans. Like BNPL, the fintech revival repositions a legacy product as “new and improved.”
Now is a good time for traditional lenders to reconsider installment loans. This is what the big banks are doing, and as interest rates rise there should be plenty of lending opportunities to replenish loan portfolios.
If the industry is looking for raises, my credit policy prefers deposit loans, something Fiserv has recreated. It’s like a passbook loan of yesteryear. Borrow money and secure it with your savings account. It’s just as good as lending you money or using a 401k loan to finance your next car. Little to no credit risk and the ultimate in low cost loans.
Preview by Brian RileyDirector, Credit Advisory Services at Groupe Conseil Mercator