What have you learnt so far?

• Ch1: Framework of CLD

• Ch2: Use of Fin Stat in CLD
• Ch3: Credit scoring models
• Ch4: credit risk analysis
These chapters build the foundation.
From now on we look at application of the principles to
various types of loans starting with consumer loans
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Chapter Five

Consumer lending

12/13/21 978-0-7346-1164-2 2
Learning objectives

1. Explain what consumer loans are

2. Outline the major types of consumer loans
3. Explain how different types of consumer loan
applications are evaluated
4. Explain, with the help of a specimen consumer loan
applications, how the principles of lending are applied
in practice
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5. Enumerate the precautions to be taken in assessing
consumer loan applications
6. Discuss how credit scoring and consumer loan
applications is done
7. Briefly explain the laws and regulations affecting
consumer loans
8. Outline the trends in consumer credit
9. Explain the pricing aspects of consumer loans
Consumer loans

• Consumer loans are generally regarded as loans for

household and personal needs including:
• Furniture, electrical appliances, travel, boats, homes and so on.
• May be defined as:
• Types of loans made to finance consumption, rather than productive
purposes.

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Types of consumer loans

• Loans may be classified by:

• Purpose: Houses, holidays, motor vehicles higher study, etc.
• Term: Short-term (< 1 year), Medium-term (1–3 years) and Long-
term (> 3 years)
• Terms of repayment: Instalment loans with regular P&I repayments,
and non-instalment loans for emergency purposes repaid in one
lump sum
• Security: Secured and unsecured loans

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Personal loans

• Personal Loans:
• Generally 2–5 years with monthly instalments (although can be non-
instalment loan)
• Usually negotiated directly with the bank and requires a loan
application form
• Also includes
• Overdrafts/revolving line of credit
• Margin lending for share investments with loan- to-value ratio (LVR) between
40% and 70%
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Credit cards

• Offered by banks and other companies under franchising

agreement
• Many consumer benefits including:
• Convenience
• Monthly summary
• Financial freedom
• No procedural hassles
• Low credit card fees
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• Many card-provider benefits including:
• Relatively higher risk-adjusted returns
• Huge market
• Higher interest rates
• Expanding services
• Price-insensitive customers

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• Merchant benefits including:
• Increased number of customers
• Prompt payment for credit sales
• Increase in number of prospects
• Customer profiling
• Advantage over other merchants
• Important caveat — Card providers do face increased risk
from credit card fraud and ensuing exposures
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Six steps in credit card transactions

1. Credit card swiped in terminal

2. Cardholder and transaction details transferred to merchant’s
institution
3. If card issued by different institution, details routed to card-issuing
firm
4. Acceptance/Decline notification transferred to merchant’s
institution
5. Acceptance/Decline sent to merchant
6. Merchant verifies credit card signature
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Evaluating consumer loans

Evaluation sees use of 3 Cs

• Character:
• Track record of the individual
• Ability
• Purpose of loan
• Integrity of the borrower
• Spending habits

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• Capacity to Repay:
• Net income
• Deposit balances with bank
• Stability of job
• Stability of residence
• Borrower’s margin
• Collateral:
• Assets that may be recovered in default, although seizure must be
a last resort
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Step-by-step assessment of
personal loans

1. Obtaining prescribed application form

2. Conducting preliminary assessment
3. Accepting and loading application
4. Taking securities
5. Determining interest, fees, charges
6. Approving/rejecting application
7. Supervising of loan and follow-up

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Step-by-step assessment of
credit card loans

1. Obtain completed application form

2. Conduct credit checks via Credit Advantage, other
institutions, employer
3. If checks satisfactory, load details into computer to
assess whether sufficient points available
4. Create and provide card to applicant with letter of
conditions etc.

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Specimen form of consumer loans

• Personal Loan
• Application source www.commbank.com.au
• Character:
• Lender obtains authority to collect information from third parties
• Personal details to be provided and evidenced
• Applicant's employment history
• Information about personal referees

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• Capacity:
• Current employment details
• Capacity to service the proposed debt
• Details about item(s) to be purchased
• Amount to be borrowed and proposed repayment arrangements
• Whether existing bank customer to verify general financial history

• Collateral:
• What assets applicant has to indicate financial security or requirement for
financial guarantees

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Credit card loans

• Application source www.commbank.com.au

• Largely similar to personal loan applications with additional information:
• Type of card required
• Interest-free periods (if any)
• Membership of ‘rewards’ program(s)
• The applicant’s choices in card requirements will be reflected in the interest rate
charged on the credit card.

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Precautions to be taken in
granting consumer loans

• A great many precautions must be taken in granting

consumer credit, including:
• Inconsistent/withheld information
• Dangers of over-committed borrower
• Proper signing of all loan documentation
• Meticulously ensure bank’s lending policy is adhered to
• Proper searches for bankruptcy or other credit problems must be conducted

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Credit scoring consumer loan
applications

• Credit scoring provides many advantages including:

• Large volume of credit applications can be handled quickly
• Lower cost than judgemental methods
• Lower staff training time and costs
• Speedier approvals for client and can be done via internet

• Uses key variables in statistical model such as age, income,

house ownership

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Consumer credit governed under
numerous legislative acts

• National Credit Code

• Applies to all credit contracts
• Applies for investment property loans as well
• Doesn’t apply to margin loans

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• Anti-Discrimination Laws
• Credit may not be withheld on the basis of age, sex, religion, race or nationality

• Code of Banking Practice

• Voluntary code of Australian Bankers Assoc

• Trade Practices Legislation

• Anti-competitive and deceptive conduct

• Privacy Legislation
• Borrower must authorise information access
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Trends in Consumer Credit

• Trends in Personal Lending

• Sustained growth
• Dominated by motor vehicles and other consumables

• Trends in Credit Card Lending

• Credit card figures not reported separately and so includes revolving lines of
credit
• On consolidated figures, only around 50% of available credit is actually being
used

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Pricing and structuring

Loan Pricing:
• Is a function of the cost of funds, risk, macroeconomic
factors, inflation and competitor’s pricing
• Either fixed or variable rate with or without early payment
penalties
• Fees add to to profitability and an important loan pricing
considerations

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• Loan Structuring:
• Refers to repayment structure and any other relevant
conditions
• Must be supported by appropriate documents at all stages
• May contain guarantees or other collateral
• Finalisation of the terms

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What did you learn today?

• You learnt the application of lending principles to

consumer loan decisions.
• In the next session we look at application of lending
principles to specific situation of consumer loans: real
estate loans

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