With credit policies constantly being tweaked and banks changing their risk profiles of prime customers, the near-prime segment has been growing in recent years – resulting in increased interest from both the broker and consumer market. In this sector report, we take a look at the near-prime segment and who it is servicing.
Ever since the global financial crisis, banks across the globe have been reviewing, adjusting and, in many cases, tightening their credit policies. The level of risk that major lenders are willing to take on has dropped dramatically, pushing borrowers into new borrowing categories and resulting in fewer standard “vanilla” prime loans.
It’s this undulating shift in the banks’ prime borrower profile that has resulted in more borrowers falling outside of what was traditionally considered prime, and now needing more specialised solutions. Enter near-prime lending.
According to Pepper Money’s general manager of mortgages and commercial lending, Aaron Milburn, it was Pepper that first brought near-prime lending solution to Australia.
In 2012, Pepper Money conducted research and found that many customers requiring specialist loans had good credit histories but were falling outside of the banks’ prime serviceability checks for prime loans. For example, borrowers with good credit files but inconsistent income (such as self-employed borrowers or those on rolling contracts) were falling outside of prime profiles.
“A customer could have been a prime customer at a bank in January, for example, but because a bank changed its policy in March, that same customer with exactly the same criteria would no longer be offered a loan,” Mr Milburn says.
“As such, Pepper launched an innovative new product for this borrower segment, Pepper Easy, to help those customers that are just missing out on getting a loan from a bank but can still afford the loan repayments,” he says.
Near prime, unsurprisingly, is similar to what a prime product would look like at a bank.
Common examples of near-prime customers include:
While near-prime products have been in the Australian market for some time and an increasing number of lenders are now offering loans for this segment, there has been a particular uptick in the number of near-prime loans written in the past few years.
Mr Milburn reveals that the non-bank lender started to see “real traction” in the space in 2016 and saw a 60 per cent increase in near-prime flows, year-on-year, between 2016 to early 2019.
He suggests that this increase has been the result of three factors: “The reasons for near prime gaining in popularity is because bank policy is changing and continuing to change by the day, giving brokers more opportunities to embrace the near-prime offering for their clients.
“As we see more and more self-employed borrowers coming into the housing market – especially those who have seasonal income or temporary/rolling contracts – they are having to look outside the major banks for their solutions because they fall outside their prime credit policies.
“Secondly, brokers are way more aware of and comfortable with near-prime solutions than they have ever been before, which dovetails into the third point, which is around the education and solutions that are out there to make it easier for brokers, including Pepper’s five-step process for offering alternative solutions (see boxout), the Pepper Product Selector tool that helps you select the most appropriate solution in around two minutes by answering 12 questions (see case study), and Pepper Resolve, which gives you an automatic second offer if your application with a bank gets turned down.
“These tools all take the guesswork out of decision making,” Mr Milburn says, “and have really been at the forefront of near-prime growth in Australia.”
“Because, once you remove the barriers around talking to a customer about a near-prime loan, or indeed a specialist solution, it becomes much easier for the customer to understand and be open to the options that are available to them. It also enables a broker to address their longer-term goals and establish an ongoing relationship that will support the customer well into their future,” he adds.
According to Mr Milburn, while knowing and identifying a near-prime loan is key for brokers, the same is not necessarily true for the borrower.
Indeed, Mr Milburn suggests that too often, borrowers can become distracted or confused by finance terminology and industry jargon. He therefore suggests that brokers focus on the solution, rather than the product categorisation, when talking to their customers.
“I think industry can focus too much on phrases or terminology. Consumers don’t know the terms prime, near prime or specialist. Those are lender terms. What they know is they need a solution to buy a home for their family or for an investment property.
“The customer just wants to know who their loan is with, what the rate is and how the product works for them. I think we can run the risk of using these industry phrases in consumer conversations when they have no idea or care about what they are,” he warns.
“So, I think we need to be talking about solutions rather than using jargon. If a broker says, ‘I have found the right solution for you based on your circumstances, and it’s with Pepper Money. It’s called a Pepper Easy Loan, and this is the rate, fees and specifications, costing you $X a month’, it can be as simple as that.
Mr Milburn concludes that he believes the near-prime space will continue to grow in 2020. He says: “There is so much opportunity this year. The groundswell of consumer support behind brokers last year was immense, and I think we’ve got a real opportunity as an industry now to not only repay that support by ensuring people are in the right solutions, but also getting out there and really owning the mortgage space in this country because it’s the right way to go.”
A broker from Melbourne met with his client, a self-employed borrower who had been running his own business for the last four years, taking home an annual salary of approximately $100,000.
His client wanted to use his home, valued at $285,000, as security for a loan that would enable him to consolidate his $25,000 personal loan and take out $180,000 of cash to expand his home maintenance business.
The broker recognised that while his client was creditworthy and had a solid business plan, he would not fit within the criteria of the major banks.
After having been informed of the Pepper Product Selector (PPS) tool by his BDM, the broker input his client’s details into the platform and received an indicative offer for a Pepper Easy (“near prime”) home loan in less than five minutes.
After discussing Pepper’s indicative offer with his client (see five-step process in boxout), the client was pleased to learn that there was an alternative solution available and decided to proceed to application.
His broker attached the PPS indicative offer with the application documents and, following a formal credit assessment, the application was approved. The loan settled soon after.
Through PPS, the client was able to obtain finance for his needs and move forward quickly.
A five-step process for presenting an alternative solution
Pepper Money suggests that brokers can follow the following five-step process for presenting an alternative solution to a customer:
Help the customer understand why they fall outside of a traditional lender’s policy.
Approach the topic of moving forward with the alternative lender and why you are recommending them.
Outline what the repayment schedule looks like, and show they can afford the loan.
Outline that the solution is a temporary loan to help them meet their objectives, and reassess the borrower’s financial position once they fulfil prime loan criteria again.
After successfully answering any questions, confirm that they are happy to proceed with the loan before lodging with the relevant documentation.
Annie Kane is the editor of The Adviser and Mortgage Business.
As well as writing about the Australian broking industry, the mortgage market, financial regulation, fintechs and the wider lending landscape – Annie is also the host of the Elite Broker and In Focus podcasts and The Adviser Live webcasts.
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