One of the rising controversies in financial circles is the increasing popularity, and availability, of so-called “subprime” auto loans. Some are concerned that the auto industry is loosening credit too quickly for too many people, while the auto retailers themselves insist there’s no issue. What’s happening, and what does it mean for you?
The essential concern is that there’s a bubble growing in the auto loan industry and all financial bubbles, sooner or later, pop and take a bunch of money with them. It doesn’t help that the industry still uses the term “subprime,” which is a common term to denote loans to people and organizations that don’t have the greatest credit, but which was tainted during the 2008 economic crash.
Even in the absence of bubble talk, some consumer advocates feel that there are still situations where a customer will be talking into buying a car that costs more than they can afford, and that the current “subprime” craze makes such loans more likely and more dangerous. And even the biggest industry booster will readily admit there are dealerships and lenders you’ve got to watch out for, but the bubble talk is, in the end, just a bit overblown.
Popping The Bubble
Auto insiders dislike the bubble comparison for a number of reasons, most of which revolve around the fact that it’s more hype than reality. First of all, auto loan debt is nowhere near what the mortgage bubble was; it’s less than a tenth of overall American consumer debt, far outstripped by credit cards, mortgages, and student loans. Even if everybody stopped paying their auto loans tomorrow, it wouldn’t be nearly as catastrophic as the housing crisis.
Secondly, people won’t stop paying their auto loans tomorrow. The simple truth is that most of us need a car to get to work, buy the groceries, and keep our lives in shape. That tends to lead us to get the car payment in on time, and the auto loan industry indeed enjoys default rates well below other financial products.
Thirdly, cars aren’t homes. Unlike homes, which can swing wildly in value based on an enormous number of factors, cars generally start at one value and slowly depreciate in value over time. A car is not going to be worth more because it’s in a good school district. That steady decline in value helps both lenders and consumers plan out a better financial path.
Finally, the subprime mortgage bubble and the current subprime auto loans are based around very different principles. It’s worth remembering that we got into the subprime mortgage mess because of the foolish belief that home prices would always go up. Nobody in the auto industry believes that about cars, and while there are products similar to the “mortgage-backed securities” that got so many people in financial trouble back in 2008, they’re not based on irrational belief.
In short, while you should shop carefully for your car financing and make sure it aligns with your budget and your needs, don’t worry about a “subprime car bubble.” Focus instead on getting the right loan and doing the math; knowing what you’re buying is the smartest financial advice anyone can give.