Despite the improving economy, consumers often find themselves in a financial emergency and need credit to get through to the next paycheck. About 15 million U.S. consumers lack access to traditional banks and credit cards and regularly turn to small-dollar credit (SDC) products. These services are provided by pawn companies, payday loan operators and paycheck advance or similar services and often come with high interest rates. To help consumers break this cycle and to encourage industry operators to market new products, the Center for Financial Services Innovation analysts have studied the reasons consumers habitually need SDC services and have suggested new types of services.
For many SDC borrowers (32%), an unexpected expense, like an auto accident or medical bills, drives the decision to take out this type of loan. These consumers tend to borrow only once or twice a year. Analysts believe consumers in this situation could be best served with amortized installment loans that are structured to allow them to make payments within the limits of their income.
Misaligned cash flow issues (32%) also drive some consumers to the SDC market. Workers with seasonal or variable income, who cannot save money, often need short-term cash to pay the rent or utility bills. About half of these consumers take out up to 6 short-term loans a year. Because of their income variability, a good product for these consumers will be a ‘low-limit open-ended credit line.’ Along with the credit line, the borrower’s negotiated repayment plan should be somewhat flexible.
Another type of SDC consumer (30%) regularly spends more than he or she earns and these folks are often at the pawn shop (77%) seeking a short-term loan of less than $500 to buy food or clothing. Because these consumers are always short on money, they are also the ones who must keep rolling over their loans. These consumers need financial counseling instead of access to more SDC products. More education is necessary to help them understand the importance of saving and spending less.
About 9% of SDC borrowers use high-interest installment loans to make a planned purchase such as a car or furniture. These consumers will initiate installment loans (51%) about 1 or 2 times a year. Because this group is the most responsible and generally has higher income than the other groups, lenders should be helping them build credit so they can eventually transition to more traditional credit sources.
If you are working with SDC service providers, have you talked with them about steps they can take to improve their service and reputation by offering products that will help their clients build good credit over time?
To learn more about these types of consumers, like pawn shop customers, check out the AudienceSCAN report available on the Research Store at ad-ology.com.