Auto lending has increasingly become a profit center for the credit union industry over the years. Most credit unions offer some type of auto loan financing whether directly to their members or through auto dealerships and other relationships. In this article, I will discuss the nuances of both direct and indirect lending strategies to help you determine if there may be other opportunities in your market to better balance your auto loan portfolio. Consider these facts:
- Currently, indirect auto lending surpasses direct-to- consumer lending on average among U.S. credit unions.
- Banks still hold a significantly higher market share compared to credit unions in the indirect sector with almost double the market share.
- On average, indirect lending represents almost 70% of the auto loan volume nationally.
Both banks and credit unions can benefit from increased income and asset growth with indirect lending. In order to be successful, close monitoring (due to tight margins) and constant nurturing to build and maintain trusted third-party relationships is needed.
Profitability is continually being squeezed due to steady increases in dealership fees, which have grown considerably in most markets, and in turn reduce margins. In addition, quicker rates of pay-off, increased charge offs and delinquencies add to profitability concerns with indirect lending. Marginal applications (not up to the institutions underwriting standards) and dealership loan documentation discrepancies further create the need to have effective oversight.
With a well-managed indirect program, financial institutions will generate incremental interest income. Unfortunately, little (if any) non-interest income is realized by credit unions as the dealership keeps the MBI, GAP, AD&D, documentation fees and other fees.
This all points to the need to balance an indirect program with other loan strategies.
Credit unions are making advances with student loans, credit cards, and first mortgages. But on the auto loan side, we suggest that they redouble their efforts to generate direct auto loans with both new and existing members. In other words, don’t rely on indirect auto lending alone.
As a side note, one non-dealership corporation has started to leverage this opportunity nationwide. The corporation pays the marketing costs for potential members, completes the loan approval process, and presents the packaged loan to the institution for their acceptance.
Part of that corporation’s strategy is to keep the majority of the non-interest income from insurance add-ons for themselves, leaving the credit union with another “indirect” loan member. Institutions that benefit the most from this program are typically the ones that have the lowest rates in the market.
On the direct-to-consumer side, many auto loan marketing strategies use a “shotgun” approach featuring a low rate offer. This approach can generate good initial response rates. However, the majority of those responders do not meet the credit union’s loan approval parameters. Internal resources are wasted due to high application volumes and low approval rates – which frustrate both the loan department as well as the individual households responding.
A concerted effort to reach new potential members (residing in your community charter or association footprint) can significantly increase loan growth and profitability per loan. Targeting households missed by your indirect program can be done effectively and economically with the right marketing strategies. A successful direct lending program will utilize credit bureau analytics to create a customized offer to profitable audience segments, with easy-to-understand messaging and multiple response options.
This type of direct approach allows loan officers a direct line of communication with qualified prospects that have been vetted through some form of credit approval process. After all, a key source of lost income from indirect loans is the inability to establish that direct relationship with the new member. According to CUNA News, “69% of credit union auto loans originate through the indirect channel, only 5% of those indirect members use additional credit union products.” As it has been documented numerous times, single service relationships tend to end when the loan is paid off and are difficult to cultivate into overall real membership growth.
Below are average calculations from our current clients comparing income generated on a direct loan versus an indirect loan. Please note, the income number on direct loans is being underreported in this chart since many of these relationships continue after the average loan life of 24 months. Consumers are much more likely to continue using the credit union for future loans (and other banking services) with a direct-to-consumer loan approach.
| Direct | Indirect | |
|---|---|---|
| Loan Amount: | $17,000 | $17,000 |
| Interest Income: | $1,185 (based on 4.5% blended rate, 24 months average life) |
$889 (based on 4.5% blended rate, 18 months average life) |
| Non-Interest Income: (GAP, MBI, AD&D, etc.) |
$288 | $0 (Dealer keeps this income) |
| Checking Accounts: (interest income, incentives to open, debit card interchange, overdraft fees, etc.) |
$240 | $12 (Little to no additional income) |
| Other Products: (Credit Cards, Unsecured loans, HELOCs, etc.) |
$247 | $12 (Little to no additional income) |
| Total Income: | $1,960 | $913 |
As you can see, total income more than doubles when the credit union can keep non-interest income and add additional accounts and services with the member directly. Having membership friendly “built-in” incentives for cross-sales helps generate faster on-boarding for additional services. Ultimately, the goal with direct lending is to gain a lifelong relationship with a new member, not just a loan. Building relationships one member at a time has proven very successful in the past, and should continue to be successful in future years.
In summary, finding the right balance between direct and indirect lending approaches will be critical to the bottom line. Whereas indirect auto lending may not always be part of the mix, we do recommend nurturing and growing your direct-to-consumer strategy because of the likelihood for longer term relationships and increased income.
George Monnier has spent over 16 years helping financial institutions generate new deposits and loans. He is a founding partner of Stellar Auto Loans, a division of Stellar Strategic Group, which offers pay-for-performance auto refinance programs to the banking industry. To learn more about Stellar Auto Loans, please contact george.monnier@thestellarfinancialgroup.com or 402-708-2425.