Subprime Loans: Social Responsibility and Current Measures Taken

     What organizations that participate in such unscrupulous acts don’t understand is that when you bring down the value of your customer, you also bring down the value of your overall image and product. According to Cohen (2009), social responsibility is when “every organization must assume full responsibility for its impact on employees, the environment, customers, and whomever and whatever it touches”. If that is the case, then subprime lenders must acknowledge how ruthless and unethical their practices are to the community. How many times have you purchased something based off of the amount of ratings or likes it had?

     If you have a bunch of people calling your company a scam, do you really think more people would be willing to do business with you, even if you have money to lend? A prime example of this would be Synchrony Bank (formerly known as GE Capital). Synchrony Bank just finished losing a class action lawsuit about racial discrimination. They were found to be systematically denying people lines of credit based off their names, pictures (via social media), how they sounded over the phone, forms of identification to seek credit (IDs), and by even the neighborhoods that they lived in.

     Synchrony Bank was also found to be randomly reversing the credit extended to melanated people, even when they had no balances owed, and when nothing warranted the closing of the account to begin with. The reputation of GE Capital was so tarnished to where they had to change their name to Synchrony Bank, back in 2014. Lenders hold a social responsibility to uplift the community, and not hinder it, by closing accounts, allowing for inquires to build up on your credit report after illegally denying you, and intentionally ruining your credit.

     The results of failing to be socially responsible are that many people within the community suffer. According to consumerfinance.gov (2014), “over 750,000 consumers were harmed by illegal, deceptive and discriminatory credit card practices behind GE Capital“. The consequences of failing to be socially responsible, for GE Capital, is that they were ordered by the Consumer Financial Protection Bureau (CFPB) to pay $225 million in relief to consumers harmed by their disgusting practices. Measures that have been taken to ensure that this doesn’t happen again, is on CFPB’s end. They made it their business to educate consumers on how to report these issues; so sickening acts (like with GE Capital/Synchrony Bank) don’t continue to go on for as long as they did. But, Synchrony Bank is not the only company participating in reckless, unscrupulous, and greedy subprime lending acts. According to Thiel, Bagdasarov, Harkrider, Johnson, and Mumford (2012), "Corporate and financial misconduct amidst the recent world financial crises, such as the predatory subprime lending practices of Ameriquest, Goldman Sachs, and IndyMac Bank, have left few wondering whether ethics in leadership should be of greater focus moving forward (Muolo and Padilla 2010; Paletta and Enrich 2008)". If corporate businesses started seeing being morally and ethically correct as a trend, social responsibility would actually be successful within this society.

Subprime Loans: Leadership Decision-Making

     Leaders have the ability to put their foot down and determine whether or not they will give borrowers a hard time. According to Joseph Gilbert (2011), “An organization does not make decisions; its function is to provide a framework, based upon established criteria, within which decisions can be fashioned in an orderly manner. Individuals make the decisions and take responsibility for them.” These words were written over 40 years ago by Alfred Sloan, the legendary chief executive officer of General Motors. If we think about their meaning, we can take the first step toward establishing who is to blame for the subprime lending mess. Mortgage loans are made by an institution, not by an individual. However, the authority to decide whether or not to make a loan is vested not in the institution as a whole but in a credit or loan officer or committee”. Leadership skills come from the top, and trickle on down to the bottom.

     If leaders took the initiative, and started lowering interest rates, and slowly extending larger amounts of credits to borrowers who have bad credit, the subprime loan industry will decrease. In addition to the subprime loan industry decreasing, other major lenders would potentially follow in suit. Just as an example, Fingerhut.com is worth over 1.7 billion dollars. Its estimated website traffic alone is worth $534,820. Back in 2002, the owner of Fingerhut.com was on the brinks of going bankrupt. He was thinking about either closing or selling the company. Then, Fingerhut.com improved its website, and started extending lines of credit to people who had imperfect credit. They started out giving the people very small lines of credit… anywhere from $50 to $150 dollars.

     Every time the borrower paid off their balance, the line of credit increased. According to Watkins (2011), “The Goldman Rule rests on the assumption that increases in profitable opportunities increase the opportunity cost of ethical behavior. Ethical behavior refers to self-imposed actions to avoid taking advantage of others that result in lower profits. The Goldman Rule suggests that financial institutions are less likely to engage in ethical behavior where the opportunity cost of such behavior is high”. It’s apparent that Fingerhut.com decided to follow the practices of the Goldman Rule. Not only did this built a relationship with Fingerhut and its borrowers, but it also improved and strengthened the credit score of the borrowers. And, yes, Fingerhut.com did have higher interest rates for people they extended lines of credit too. But, the interest did not start to occur until the borrower ran late on their minimum payment being owed. It’s this type of initiative that shows not everyone is out to make money. Leaders have the ability to make decisions that help to improve the subprime loan crisis, just as the owner of Fingerhut.com did. And, it truly is the leaders decision on whether or not they participate in ethically assisting a borrower in both taking out a line of credit, improving their credit score, and paying back said loan.

Subprime Loans: What Are They?

     Subprime loans are the types of loans, lines of credit, and mortgages that are extended to those with imperfect and poor credit. Subprime lending is usually for those who have issues with meeting the repayment schedule. People with medical emergencies, unemployment, and divorce are usually good candidates for subprime loans. Subprime lending is also known for having higher interest rates, and can be considered a risk for both the lender and the borrower. According to Investopedia (2015), “A large amount of risk is associated with subprime mortgages. Since the mortgages are specifically for people who do not fit the requirements for a prime mortgage (which usually means the borrower will have a difficult time paying it back), the organization or bank lending the money has the right to charge high interest rates to provide an added incentive for the borrower to pay on time”. Subprime loans are usually for those with credit ratings below 600. The candidates for subprime loans are placed in a higher position to default on what they have received, because they had a poor history of being able to make repayments in the first place. They also had higher interest rates to pay, which just means that there’s more being added to the loan. People with poor credit rarely have the opportunity to be approved for traditional home mortgages and conventional loans.

     Take a look at this video that explains the difference between prime and subprime loans. Courtesy of Brian O'Connor, personal finance columnist for The Detroit News: See Here

      Now that we understand some of the risks of subprime loans for borrowers, lets go over some of the risks of subprime loans for lenders. A very large risk for lenders, who participate in providing credit to borrowers, is the risk of the borrower defaulting on the loan. Lenders already seem to have an idea of what a potentially high-risk borrower looks like. According to Neil Librock (2015), “Credit scores predict the statistical odds of that a customer will default. The median consumer FICO score of about 720 has a projected default risk of about 6%, while a "superprime" 780 score has a less than 1% default rate and a subprime 640 score has a 15% default rate, according to data from a 2012 study by the Consumer Financial Protection Bureau”. But, lenders always have the ability to write-off their losses, and also sell them to debt collectors.