Auto lending has become more complex due to a combination of factors:
- Higher Interest Rates — Despite some recent reductions, interest rates remain higher than pre-pandemic levels, increasing borrowing costs for consumers and reducing loan demand. (Investopedia)
- Rising Vehicle Prices — The average price of new vehicles has seen a significant increase, with current figures approaching $48,000. This surge is attributed to factors such as supply chain disruptions, increased production costs, and heightened consumer demand. Notably, impending tariffs on imports from Canada and Mexico are expected to further elevate vehicle prices. (Cox Automotive)
- Escalating Auto Insurance Costs — Auto insurance premiums have surged by 12.7% in the past year, driven by inflation, increased litigation costs, and riskier driving behaviors. (Forbes, Investopedia)
- Higher Maintenance And Repair Costs — Modern vehicles with advanced technology require specialized repairs, and rising labor and parts costs have further increased maintenance expenses. (Investopedia)
- Extended Loan Terms — Many lenders are offering longer-term loans (72-84 months) to address affordability concerns, but these increase the risk of negative equity and long-term borrower fatigue.
These pressures on the consumer are reshaping lending strategies. As affordability concerns mount, residual-based financing (RBF) is emerging as a strategic tool to help credit unions offer members lower monthly payments while mitigating portfolio risk.
The Residual-Based Financing Advantage
Residual based-financing, vehicle leasing, or walk-away balloon financing all allow credit unions to offer lower monthly payments by deferring a portion of the vehicle’s cost to the end of the loan term. This structure presents several advantages:
- Lower Monthly Payments — By basing financing on the vehicle’s projected residual value rather than the full purchase price, members see significantly reduced monthly payments.
- Shorter Loan Terms — Unlike traditional extended-term loans, RBF programs typically range from 24 to 48 months, helping members avoid long periods of negative equity.
- Reduced Default Risk — With lower payments and shorter loan durations, members are less likely to experience payment fatigue, decreasing delinquency rates.
- Stronger Retention Opportunities — When members reach the end of their term, credit unions can seamlessly transition them into a new loan, increasing member loyalty.
- Higher Yields — Because the residual-based loan amortizes to the residual value, instead of zero like a conventional loan, the residual-based loan produces more income for the credit union.
Implementing Residual-Based Financing Effectively
To successfully integrate RBF into their lending portfolios, credit unions should:
- Educate Loan Officers and Members — Ensure front-line staff understand and can clearly explain RBF benefits to members.
- Partner With Industry Experts — Work with providers who specialize in managing residual based programs to mitigate risk.
- Market The Program Proactively — Use digital channels, email campaigns, and in-branch promotions to inform members about this financing option.
Embracing Innovative Financing Options
In a market where traditional auto loans are becoming increasingly burdensome for borrowers, residual-based financing offers credit unions a way to provide affordable, flexible vehicle financing.
By reducing monthly payments and shortening loan terms, RBF helps members maintain financial stability while allowing credit unions to earn a higher yield and compete effectively in the evolving auto finance landscape.
As 2025 unfolds, credit unions that embrace innovative financing models will be best positioned to serve their members while strengthening their loan portfolios.
Learn more about Residual Based Financing and its benefits by registering for AFG’s upcoming webinar, Understanding Residual-Based Financing: From Basics To Benefits.
Auto Financial Group (AFG), a Houston-based company, provides an online, residual-based, walk-away vehicle financing product called AFG Balloon Lending, as well as vehicle leasing and vehicle remarketing to financial institutions across the United States. For more information about AFG call toll free at 877-354-4234 or visit www.autofinancialgroup.com.
Tim Kelly is president of Auto Financial Group. He has close to 30 years’ experience delivering solutions to financial institutions. Contact him at tkelly@autofinancialgroup.com.
