A Hot Mess on Fair Lending for Auto Finance

DETROIT – When you hear the word "abusive" used so many times within the context of auto finance, it jolts you to attention.

And that was my reaction as I sat on a panel yesterday during a day-long symposium here on "The Road Ahead" for auto finance regulation sponsored by the Federal Trade Commission.

"Abusive" was the word John Van Alst, an attorney at the National Consumer Law Center, used over and over during our panel. He was countered by Thomas B. Hudson, partner, Hudson Cook LLP, and Thomas A. Moore Jr., president and CEO of First Investors Financial Services, who argued that practices in auto finance are sound and fair. Essentially, the debate came down to how much do consumers understand about the auto financing process and to what degree are dealers giving borrowers a raw deal.

A deep lack of understanding pervades this debate, and FTC officials will admit -- both publicly and privately -- that they do not yet know enough about auto finance to determine whether additional regulations are needed. Industry officials maintain that the vast majority of auto finance transactions are wholesome and that the overwhelming number of consumers have full understanding of the financing transaction to which they are committing. Meanwhile, consumer advocates like Van Alst and Chris Kukla, senior counsel for government affairs at the Center for Responsible Lending and another co-panelist, claim the exact opposite. Kukla, for example, cites studies that suggest the vast percentage of consumers do not understand their financial deals. (Preliminary data from our study on the matter suggests otherwise.)

To be sure, the FTC will act based on which side is correct -- although I suspect that the FTC will never be able to fully parse out which side is "right." In some ways, the roundtable yesterday was good. It allowed Moore, Hudson and others from the industry to speak out, and to directly counter some of the "abuse" claims of advocates. A one-sided "debate" would have been much worse for auto finance, of that I am certain.

Tags: FTC, First-Investors, Hudson-Cook, compliance, regulation

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Comment by Frank Rauscher on April 13, 2011 at 11:47am: Transparency is a cure for "perceptions". The auto finance industy simply could ask itself to justify any transaction with rates and fees above those charged to customers with excellent credit and then document the resultant pools of credit to show that they know what they are talking about because they are usually stating that the marginal increase above excellent credit is to pay for the associated incremental risks. Of course, the real answer is that it cannot be justified. Just one more reason why bankers ar perceived as "Untrustworthy". And,the good bankers are loath to air the dirty laundry. I wonder why not?

Comment by Steve Rabago on April 13, 2011 at 11:55am: People with bad credit and no credit need transportation. The high interest paid by these borrowers is often less than current credit card fees. It is strange to me that the FTC cannot see the similarity. High risk lending penalizes the good payer as they subsidize the poor payer. It is not much different then healthcare wither. The uninsured cost Billions while the insured subsidize the care - but most people don't get that either!

Comment by JJ Hornblass on April 13, 2011 at 12:26pm: Frank, most auto lenders track the information you pointed out in a great detail, but it gets loose at the dealer end. Additional, lenders industrywide cap the rate participation, which means even if there is some wheeling and dealing by dealers -- and it would be by dealers -- it is only within a 200 to 250 basis point band. I don't think price fixing is the answer, not just on principle, but in practice.

Comment by ANDRES HUERTAS on April 13, 2011 at 12:29pm: The concept of fairness has been based on the assumption of a 100% payment ratio (no delinquencies, repos, no collection activity, no cost of servicing the account, etc) so it seems that the new norm is that pricing according to the risk seems "abusive"; we are not to far from legislators deciding who can and who cannot get financing; preventing people from getting credit will hurt them in the long run. Consumer groups insist that a big number of customers do not understand the financial transaction but lack pointing the enormous resources the industry makes available to enhance financial literacy and also lack of a basic understanding of one the premises of consumer behavior "if the customer wanst it, the customer is going to get it". Pretty soon will hear that buying a pair of sneakers for $150.00 when the cost was $9.00 is abusive and it should be a price cap of $5.00 for all sneakers.

Comment by JJ Hornblass on April 13, 2011 at 12:32pm: Steve, I am not sure I follow you. I agree people need cars. I was really awakened to this plight at a Federal Reserve meeting on auto finance last year. At that meeting, there were studies presented that showed people without cars literally had worse health, because they could not travel to medical care with the same expeditiousness as people with cars. That's an unfortunately reality of our car-centric nation, and it must be addressed at the government level.

However, Steve, if you want people to have cars, do you not want lenders to extend credit for cars, even at a high rate? Or am I not understanding your comment (which is probably the case).

Comment by JJ Hornblass on April 13, 2011 at 12:36pm: Andres, essentially you are correct. At yesterday's FTC roundtable, there were several people who essentially said to consumer advocates, "Have you seen all the information on auto finance online?" And, of course, the answer is that there is a massive amount of information. In fact, one of the more pointed moments of the conference came when Peter J. Sheptak, vice president and general counsel of World Omni Financial Corp., pointed out that even the website site of Van Alst's employer, the National Consumer Law Center, contained literature for consumers on auto finance. Van Alst said nothing in response.

Comment by Frank Rauscher on April 13, 2011 at 12:41pm: My comment was that if the high rates are justified - prove it. If you can prove it, then the banker will get "Trustworthy points" and thanks for the community service. Now if the people with bad credit and no credit do not have the ability to pay for the loan when the loan is made, why is it being made? Or why is it being made for so much?

If you cannot prove it, then the banker is abusing the public - again!

While I have not asked the current auto finance bankers to prove it on this topic, I did recently in the past on credit card rates and fees. They could not prove it, were judged abusive by the public, and had the Credit Card Act shoved down their throats.

Does "high risk lending" or is it "stupid lending" that includes extended term financing so that the buyer has no equity until year #5 and usually has no equity in his trade-in on the next car. Which one is it that allows the sale of "independent warranty insurance" that fails to deliver and is overpriced? Which one is it that finances the dealer no value add-ons? Etc, etc.

Have you ever been in the coffee room at an auto dealership and listened to the boastful chatter of a salesman that was discussing how they "laid away" that car buyer? I have. "Laid away" is the polite words for their actual verbage that also means "Abused" which was the topic of this chat.

Shame on the bank that let them get away with it. When I ran the auto finance division at a major bank, I would not allow that to be part of the financing package. And I was very successful in volume goals, losses, and profitability.

Comment by JJ Hornblass on April 13, 2011 at 12:44pm: Frank, ah, now I understand. Yes, I agree with you.

Comment by Steve Rabago on April 13, 2011 at 12:55pm: JJ - yes I want lenders to extend credit. And that credit has to be priced based on risk, losses, the cost of money and profit. My point was the FTC doesn't understand the real cost of capital for lenders serving the under-banked communities. The FTC discussion impacts independent auto dealers making loans to the under-banked consumer. The under-banked consumer needs access to credit, they are unlikely to be going into a branded new car showroom - so the small business person "an independent auto dealer" is the likely lender or necessity.

Comment by JJ Hornblass on April 13, 2011 at 1:02pm: Steve, thanks for the clarification. Well, I think the FTC has a better understanding of that after yesterday. There was a lot of talk about risk and pricing at the roundtable. The question boiled down to just how much of the pricing is for risk and just how much of the pricing is because dealers are getting what they can out of consumers? Or as Van Alst accused, "It is not risk-based pricing of consumers. It is opportunity pricing.” The FTC is going to have to figure it out.

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