In the prevailing economic environment characterized by high interest rates and elevated vehicle prices, credit unions are facing unique challenges and opportunities in the auto lending market. Traditional auto loans, while still popular, are not immune to these economic pressures, which can deter potential buyers who are struggling with affordability.
In this context, residual-based financing (RBF) programs represent a compelling alternative, especially for pre-owned vehicles. This article explores the advantages of RBF programs for credit unions, particularly in light of the restrictive nature of current 0% financing offers.
Residual-Based Financing: A Primer
Residual-based financing, also known as leasing or balloon financing, differs from conventional auto loans by focusing on the vehicle’s residual value at the end of the term. In an RBF agreement, the borrower pays for the depreciation of the vehicle, plus interest, over the loan term, which typically results in lower monthly payments.
At the end of the term, the borrower can choose to pay off or refinance the residual value to own the vehicle, return it, or trade it in for a new vehicle.
Enhancing Vehicle Affordability In A High-Price Market
One of the most significant advantages of RBF for credit union members is the potential for lower monthly payments. As buyers are only financing the cost of depreciation rather than the full purchase price, payments can be considerably reduced.
With vehicle prices at near-record highs, affordability is a key concern for many consumers. The focus on financing the depreciation rather than the entire cost with RBF can make higher-end or newer pre-owned vehicles more accessible to average buyers.
This not only meets member needs but also positions the credit union as a flexible and member-focused lender in a competitive market.
In addition to high vehicle prices, the current high-rate environment makes traditional loan payments prohibitively expensive to some consumers. Lower payments make vehicle financing more accessible to members with limited budgets, potentially increasing the credit union’s market share in auto lending.
More recently we have seen the return of 0% financing offers. However, these are typically available only to consumers with high credit scores and are often restricted to specific vehicle models — frequently new and, more recently, electric vehicles.
Expanding The Market With Pre-Owned Options
This exclusivity leaves a significant portion of members, especially those interested in pre-owned vehicles, without optimal financing options. Credit unions can offer these programs to customers with a wider range of credit profiles, thereby serving a more diverse member base and fostering financial inclusivity.
By offering RBF for pre-owned vehicles, credit unions can tap into a larger segment of the auto market. Pre-owned vehicles are often more affordable than new models, and when paired with the lower monthly payments of RBF, they become even more accessible to a wider range of consumers. This is especially critical in times of economic uncertainty when buyers are more likely to consider pre-owned vehicles as a way to stretch their budgets.
Strategic Member Relationships
RBF programs encourage longer-term relationships with members. As members return at the end of their financing term to make a decision on the residual value, credit unions have additional touchpoints for engagement and the opportunity to offer new financing deals. This can enhance member loyalty and retention, key metrics for any credit union’s long-term success.
From a risk management perspective, RBF programs that guarantee 100% of the residual value offer credit unions a measure of protection. The member can then turn the vehicle in and walk away at the end of term.
Conclusion
Residual-based financing programs offer a multitude of benefits for credit unions, especially in the current economic landscape marked by high interest rates and elevated vehicle prices.
By providing lower monthly payments, broadening consumer access to credit, enhancing vehicle affordability, managing lending risks, and fostering deeper member relationships, RBF programs can be a strategic tool for credit unions to navigate the complexities of the auto lending market.
Implementing such programs allows credit unions to stay competitive and relevant, addressing both the immediate financial needs of their members and the strategic growth objectives of the institution.
Would you like to learn more about the benefits of residual based financing for both your credit union and your members? Auto Financial Group is hosting an educational webinar series on the topic May 21, 2024. Watch the recordings of previous sessions and register for upcoming ones today.
Tim Kelly is president of Auto Financial Group. He has more than 25 years of experience delivering solutions to financial institutions. Reach him at tkelly@autofinancialgroup.com. 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.
