Consolidation loans, kicking the can down the road and the responsibility of banks in this situation

Dear all:

This is just a question I am interested in knowing the answer to, it is not related to any debt or my personal circumstances, so if this is a waste of people's time, please delete or tell me so and I won't ask such questions again:

Given the fact that the general consensus on this forum (and probably elsewhere) is that consolidating is rarely/never a good idea, and there is soft evidence on the forum boards to support this line of argument, why are banks offering loans to consolidate other debts?
I mean I know you could lie about the loan purpose but if we take it for granted that most people do not do this and select the "debt consolidation" reason, it seems a bad choice all round both for the consumer and the provider.

I mean surely there are no winners in these situations - if you rack up a debt on a high street bank credit card, consolidate with a loan from the same bank, build the debt up again, the bank loses out when it all goes wrong/defaults.

Also given the aforementioned soft evidence, is it responsible to lend money in this way and for this purpose?

Thanks

Graham 
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  • edited 21 February 2022 at 12:38PM
    sourcratessourcrates Forumite
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    edited 21 February 2022 at 12:38PM
    But the bank doesn't lose out, consolidation loans are a big money earner for banks, due to the interest charged, and the longer term these loans tend to run for.
    However, they are also a double edged sword, both for the debtor and the lender.

    The debtor, once consolidated, unless they are very careful, can find themselves tempted to take out further lines of credit, thus ending up back in the same position they were previously in, but with twice the debt.

    The lender is also taking a gamble, as applying for a loan of this nature screams out "I cannot afford my current borrowing commitments", so its a big risk all round.

    They offer the loans simply to make money from you, they are a commercial business after all, its what they do.

    The ones that default are off set by the ones that don`t, and those accounts that do default are usually sold, so a small amount of money goes back to the bank, and then the remaining balance is written off against tax.

    Whatever happens you can be assured the business model will always work out in favour of the lender, you also find that although the unpaid balance was written off by the original lender, the debt purchasing company will still chase you for the full balance of the debt, these companies work hand in glove with each other.
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  • EssexHebrideanEssexHebridean Forumite
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    Sourcrates has said it! Banks don't care that their pushing of consolidation as a "solution" simply creates a bigger problem down the line - in a lot of cases their loan will get repaid, it will be another banks credit card, or a payday loan company or whatever that loses out if someone defaults anyway. 

    The big issue with consolidation is that it means the debtor never really gets to the root of the problem. So they see CC debts of £10k across 4 different providers, all racking up interest. "Consolidate into one smaller, easier monthly payment" scream the headlines - so they do, but crucially they also keep the cards. Initially the "Smaller, easier monthly payment" makes them feel better off too - so they have a little spending spree....on one of those cards. And then another... Three years down the line, they still have the original loan to pay off, but have now gained another £10k of CC debt - so they consolidate...and the cycle begins again.  Compare that with someone who enters into a DMP to sort out that original 10k - they cut up the cards, learn to budget, and to save. Chances are that 3 years on, with interest having stopped and careful money management having been learned, MIssDMP is now debt free and beginning to build some money in the bank, whereas MrConsolidation is now £15k in debt, and heading for another few years down the line when that will have increased to £20k or even more... 
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  • enthusiasticsaverenthusiasticsaver Forumite, Ambassador
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    The banks win as the interest is paid by borrower until they get to the point they cannot make repayments. 
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  • KaronherKaronher Forumite
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    Although consolidation is not recommended it does work for some - me for instance. It would have taken me a lot longer to pay off some debts due to the interest rates.
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  • SandtreeSandtree Forumite
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    Given the fact that the general consensus on this forum (and probably elsewhere) is that consolidating is rarely/never a good idea, and there is soft evidence on the forum boards to support this line of argument, why are banks offering loans to consolidate other debts?
    I mean I know you could lie about the loan purpose but if we take it for granted that most people do not do this and select the "debt consolidation" reason, it seems a bad choice all round both for the consumer and the provider.

    I mean surely there are no winners in these situations - if you rack up a debt on a high street bank credit card, consolidate with a loan from the same bank, build the debt up again, the bank loses out when it all goes wrong/defaults.

    Also given the aforementioned soft evidence, is it responsible to lend money in this way and for this purpose?
    I would argue that this forum is not representative of the general population and so whilst here the views on consolidation may be negative that doesn't mean its shared everywhere.

    Does consolidation work? Well that depends on the interest rates involved, durations and in particular with revolving debt (eg credit cards) if post consolidation the credit line isn't reused again. There are plenty who for various reasons find themselves with modest balances on higher interest credit which sensibly could be consolidated to a lower interest loan and more reliably paid off. 

    Banks aren't in the habit of losing money and whilst retail banking is rather thin pickings compared to investment banking and ultimately a numbers game still the return healthy profits from lending. Whilst you think they must be losing money hand over fist clearly they aren't on average otherwise they'd not be offering them
  • Graham1982Graham1982 Forumite
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    @Sandtree, I agree. Although I said this post wasn't about me (and it isn't), I too consolidated and have not felt the need to get into further debt, or done so uncontrollably i.e not through choosing but simply through doing without thinking.

    What I find interesting is that yes, I know banks are in the business of making money but given that they are held to codes of practice and are seen as the better alternative to sub[rime lenders, it seems their strategy for making money off of consolidation loans is the same business model as that offered by Bright House - i.e. charge high interest and hope/calculate that people will pay enough to make the company a profit before they default.

    I don't and didn't like Bright House but they were universally loathed for their behaviour (quite rightly) whereas consolidation loans, perhaps because they are offered by banks, are seen as a good and safe idea.
  • SandtreeSandtree Forumite
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    What I find interesting is that yes, I know banks are in the business of making money but given that they are held to codes of practice and are seen as the better alternative to sub[rime lenders, it seems their strategy for making money off of consolidation loans is the same business model as that offered by Bright House - i.e. charge high interest and hope/calculate that people will pay enough to make the company a profit before they default.
    I have the pleasures of working in another part of Financial Services than retail banking but have the same joys of the FCA setting standards about how we should treat customers and PRA telling us what we need to be doing to ensure we are financially stable.

    Most high street banks will decline a long time before they get into the kind of interest rates charged by subprime including Bright House. They are also looking at customers as a collective not individually and so your "charge high interest and hope/calculate that people will pay enough to make the company a profit before they default" is not true at an individual level but should/will be at a collective... it wasn't clear which you meant?

    This all feeds into their capital modelling as clearly they take savings in from some customers and then loan it out to other customers. They are obliged to pay any stated interest to their savers irrespective of the default rate and have to have a realistic model of late/non payment on the loans with a risk margin to ensure they can function... in my part of FS the capital calculation is supposed to enable the company to survive a 1:200 event if you held 100% of your SCR however in reality you are expected to hold 125% or more of that.

    Moving into sub-prime/high interest whilst still PRA regulated means risks are so much higher so capital requirements are so much higher and hence they'll decline rather than charge the level of interest required... if you aren't a bank but just a lender then no PRA regulation and so taking on more risky business and so relatively speaking would be cheaper.

    To deal with my world, people always say "oh you make a claim and the insurer will just increase your premiums to recover the losses next year to recover the money"... well today was looking at a claim where we are going to pay out circa $80m (joys of US legal system) on a policy we'd charged $1,000. Absolutely their premium will increase next year if they renewed but even if we increased it ten hold how many lifetimes would it be before we recovered out outlay?
  • Graham1982Graham1982 Forumite
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    Hello @Sandtree

    Thank you for your detailed response. I guess I asked the question as I genuinely wanted to know the answer from a neutral standpoint, not from the angle that I think I am right (and therefore I am) and therefore I will look for "evidence" that supports my theory i.e. flat earthers getting their evidence from other conspiracy theorists to bolster their argument. So thank you genuinely for explaining it.

    I think I meant as a collective consideration i.e Mr/Mrs. A-Z will pay their high-interest consolidation loan to term but, Mr/Mrs. 1 - 5 will not but this is an acceptable and forecasted margin for non-payment and the bank continues to function and make a profit. I think I have massively over-simplified your example/explanation but I think I understand.

    However, given your insurance example, could it not be said that much like spread-betting (as in stocks, not actually gambling) or VC, your portfolio of clients are such so that if you suffer a big loss like your $80 million one, you make a profit elsewhere?

    Also there is the argument that Bright House and the like aren't horrible entities as they do provide equipment that otherwise people would not be able to purchase due to adverse credit ratings etc. Now I cannot tar people with the brush that I tar myself with but having come from a family that were decent and tried to educate me on financial matters, I have to take full responsibility for my financial decisions good and bad, as I chose to ignore (as a teenager) the advice given to me. Bright House etc offered a service that I wouldn't take as I know the interest rates are not a good deal for me etc, etc and that I can get similar/the same products elsewhere. However, those that are poorly educated in-terms of finance/in general I feel sorry for because they don't come to the table armed with all the facts.


  • edited 23 February 2022 at 9:37AM
    SandtreeSandtree Forumite
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    edited 23 February 2022 at 9:37AM
    I think I meant as a collective consideration i.e Mr/Mrs. A-Z will pay their high-interest consolidation loan to term but, Mr/Mrs. 1 - 5 will not but this is an acceptable and forecasted margin for non-payment and the bank continues to function and make a profit. I think I have massively over-simplified your example/explanation but I think I understand.

    Yes exactly that, and really not a simplification. Banks don't know who will default as insurers don't know who will claim but they know that in a group of people with certain characteristics the rate of default will be X% and that's used to price the loan or insurance.

    If you look at the boring world of annuities (aka pensions) they have longevity tables which basically say what the percentage chance someone will survive that year is. Whilst in the real world people are dead or alive in modelling annuities you'd say that your currently 50 year old customer is 85% alive on their 75th birthday so assume you'll be paying 85% of their pension. In reality if you insured 100 people 85 would be alive and 15 dead (if your model is right) but it comes out to the same effect. 

    However, given your insurance example, could it not be said that much like spread-betting (as in stocks, not actually gambling) or VC, your portfolio of clients are such so that if you suffer a big loss like your $80 million one, you make a profit elsewhere?

    Also there is the argument that Bright House and the like aren't horrible entities as they do provide equipment that otherwise people would not be able to purchase due to adverse credit ratings etc. Now I cannot tar people with the brush that I tar myself with but having come from a family that were decent and tried to educate me on financial matters, I have to take full responsibility for my financial decisions good and bad, as I chose to ignore (as a teenager) the advice given to me. Bright House etc offered a service that I wouldn't take as I know the interest rates are not a good deal for me etc, etc and that I can get similar/the same products elsewhere. However, those that are poorly educated in-terms of finance/in general I feel sorry for because they don't come to the table armed with all the facts.
    That is the fundamental approach of what insurance is, its a pool where premiums are put and those that suffer adverse events can be reimbursed from the pool. You know that some will take out vastly more than they put in but if you've worked out your contributions right the pool itself should be stable overall and hopefully return a profit. The basic mentality is that you exchange the risk of a large loss (your house burning down) for the certainty of a small loss (your premiums).

    To spread the risk further there are also pools of pools as insurers can buy reinsurance which means others share in the losses so with that $80m claim $30m will be reimbursed by the reinsurer. Reinsurers also retrocede to other reinsurers and hence we get a stable industry which can survive massive losses without major insurers collapsing. 

    I think when you start looking at the likes of Bright House you have to first look at the wider picture of society, consumerism/materialism and debt. The company is more a result of other "problems", that our self worth is defined by how many inches of TV we have hanging on our walls etc. I would argue until you fix those sorts of problems then people will always find a way to keep up with/out do the neighbours and an alternative company will service that market if not Bright House. Maybe its more of a fundamental issue though and if we moved away from material goods to say education as how we measure success that instead there'll be people getting high interest loans to do their 5th PhD because Bob down the street just started his? May still be preferable. 
  • ThrugelmirThrugelmir Forumite
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     why are banks offering loans to consolidate other debts?

    The banks are in business to lend money. It's a viable option if used correctly. Down to people themselves whether it succeeds or fails. Unfortunately statistics confirm clearly that those that do consolidate debt do not benefit in the longer term. Reflecting the material culture we now live in. 
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