April 13, 2017
It’s been nearly ten years since the subprime mortgage crisis, and the Great Recession seems to be a distant memory for many of us. Home values have since risen and unemployment has dropped below 5 percent after hitting double digits during the recession. Many of us are gaining back some normalcy and yet the finance landscape is undergoing major changes.
The fintech revolution is disrupting the financial services sector. Many of these new apps and services seek to make personal finance easy challenging the way we handle money. However, since fintech is still in a state of flux, there is always the risk that it can be used as an avenue by dodgy entities to exploit consumers.
The Spending and Debt Cycle
Many of us should’ve learned our lessons during the economic crunch. Unfortunately, this isn’t the case. Bad money habits still plague many consumers.
The average household carries $134,643 in combined debt which includes mortgage, credit cards, auto loans, and student loans. A good chunk of household income go into servicing these loans as illustrated in how Americans spend their paychecks. The biggest chunks of people’s monthly spending correspond to housing, transportation, and education. For other expenses, Americans continue to rely on plastic. While not necessarily a bad thing, many fail to pay charges in full and carry a balance on their cards, further exposing them to compounded interest and other fees.
Credit card debt is at its highest since 2008. Americans added $60.4 billion to the outstanding credit card debt as 2016. Worse is that, 69 percent of Americans have less than $1,000 in savings. 34 percent of respondents revealed that they don’t have any savings at all. When emergency strikes, many are left with little choice but to get more loans. However, with bad credit scores, borrowers are resort to getting them from predatory lenders.
Fintech Lending Expected to Surge
Fintech is changing all aspects of finance from payments, to investments, and even to loans. The key selling point to these apps and services is ease-of-use. In payments, payment service providers aim to speed up checkout processes. Investment apps also seek to make starting a portfolio easy for first time investors.
As for lending, fintech lenders promise fast loan application processes and approvals. Traditional loan applications often required paperwork and approvals took time. To address this, fintech lenders use streamlined user experiences to facilitate the application process and even resort to underwriting themselves to hasten approvals. Many of these lenders also offered lower interest rates as means to compete against brick-and-mortar lenders. New lending models such as peer-to-peer lending also emerged.
While some of the pioneers in this segment, such as On Deck and LendingClub, struggled last year, 2017 is expected to provide new opportunities for fintech lenders. New players are expected to focus on specific markets and needs. Possible collaborations with banks as new financial regulations and directives emerge worldwide such as Europe’s PSD2 are expected to allow fintech players to offer new ways to engage customers.
For cash-strapped consumers, the promise of fast and easy money is always enticing. The payday loan industry alone is a $38.5 billion industry. Other segments such as small business loans are also ripe fintech verticals so lenders are expected to have no trouble finding customers.
Since the fintech scene is still a frontier, laws and regulations have yet to catch up on what exactly is and what isn’t possible for fintech players to do. What is critical is for the government to provide oversight in order to prevent predatory lending to proliferate through fintech.
Late last year, the Office of the Comptroller for Currency started to accept applications from fintech companies that would subject them to federal banking rules. Chartered companies will face controls to prevent money laundering and have to abide by consumer protection rules. However, some argue that a federal charter would also enable fintech companies to bypass state-specific provisions such as interest rate caps. Such flexibility may be abused by enterprising lenders.
Avoiding Fintech Debt Traps
So what could an ordinary borrower do to avoid predatory lenders and possible debt traps brought about by these new services? Prevention is always better than cure. Have a better handle with your finances. Use fintech apps such as Mint and GoodBudget to set budgets, monitor your spending, and build your savings.
You should always go with numbers. Know how much the loan will totally cost you. Calculate the annual percentage rate (APR). Many predatory loans would have APRs of three digits meaning you could pay triple, quadruple, or even more of the loan amount in a year’s time if you fail to pay. While many of these loans are designed to be short term, it’s really dependent on your capacity to pay.
Remember to review everything and read the fine print. Aside from the interest rates, predatory lenders would often sneak in fees as part of the fine print so aside from the principal and the interest, you may be slapped with additional fees that would sink you further into debt. Don’t be pressured into simply clicking accepting terms and conditions like most do signing up for online services.
You could always opt for traditional lenders as well. There’s always a risk in being an early adopter. The fintech lending market has yet to stabilize and companies have yet to secure market trust. Banks may subject you to more stringent processes but they, in the least, operate using the accepted industry practices.
Read more about fintech here on Tech.Co
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