Regulators have been widely expected to increase their scrutiny of banks' consumer loan portfolios, which could lead to some loan sales to bolster capital.
Generally, banks are reluctant to sell home equity, credit card, and other consumer loans. They produce a nice spread, especially with today's relatively low cost of funds. So why should banks consider selling these types of loans?
First, consumer loan sales would avoid the impact on capital that more stringent regulatory reviews could lead to. Second, banks may also be able to sell such loans today at a premium.
And finally, selling commercial loans may not be viable alternative. While a market exists for certain types and sizes of commercial loans, our experience is that this market is thinner than the market for consumer loans, though this may not hold true in the future.
Size of Commission
The selling bank should expect to pay a commission of 0.5% to 1%, depending on the portfolio's size, its credit rating, its delinquency and default rates, and the available documentation..
A limited repurchase agreement may be needed to sell some loans. Of course, regulators will consider loans sold with an unlimited repurchase agreement as remaining on the bank's books.
Generally, consumer loans should be at least 10 months to a year old. Aging of one or more years is generally needed to establish delinquency and default rates. However, with automobile loans, 36 to 48 months of remaining life are optimum in a buyer's eyes.
It is imperative that the selling bank maintain documentation in a way that facilities rapid review. A jumble of reports and files will drive down the price the buyer is willing to pay. Generally, buyers will want servicing rights transferred as part of the sale package.
However, a few buyers will allow servicing rights to be retained by the seller if the automated accounting system is of top quality and has adequate safeguards.
Demand in Specific Areas
Buyers are interested in many types of consumer loans, including:
* Automobile paper rated A, B, or C.
* Credit card portfolios from $500,000 to $100 million or larger.
* Home equity loans, open-ended or closed, and home improvement loans in packages of $50,000 to $50 million.
* Installment loans, secured and unsecured.
* Sales finance contracts.
* Truck, tractor, and equipment leases.
* Mobile-home loans.
No geographical restrictions exist, but some buyers are interested in specific regions to match their strategies.
Satisfying the Buyer
Commonly, the letter of intent for a sale will exclude loans where a borrower has dies, is in bankruptcy, or has fallen 60 days behind in payments.
A broker working with a bank will need certain verifiable information about the portfolio to determine which possible buyers would be interested. After the buyer is satisfied that the portfolio meets his needs, a letter of intent is signed and remains in effect while due diligence is carried out.
Depending on the size of the portfolio, available documentation, and capability of the automated system, the time from first contact to actual sale can range from 14 to 90 days.
It is important for the bank to make a reasoned evaluation of its loans' ratings and of how the portfolio fits its own plans.
The bank that decides which loans to sell and which to keep as part of its regular planning will be well ahead of one that must react quickly to a regulator's demand for increased capital.
Mr. Byrd is a lawyer based in Washington.
