Nearly two years ago the Federal Deposit Insurance Corp. set out to examine whether banks could make money by offering small loans to cash-strapped consumers, and with the pilot program scheduled to end in February, the answer seems clear: not in the short term.
But for many of the 31 banks participating in the FDIC test, making a profit on these loans is beside the point. Their goal in fronting funds to borrowers who might otherwise have turned to payday lenders is to build relationships that can be profitable down the road.
"Our philosophy is that we're actually growing customers who will be using all the other services and products that we offer at some point in time, but you have to have the patience to do that," said Lilia Escajeda, the Community Reinvestment Act officer at the $2.7 billion-asset Amarillo National Bank in Texas.
FDIC Chairman Sheila Bair has long been interested in getting banks to offer alternatives to payday lenders and check cashers. In tracking demand and repayment patterns through its pilot program, the FDIC intends to develop best-practices guidelines that, it hopes, will ultimately encourage more banks to make what are known in the industry as small-dollar loans.
The participating banks offer loans of $2,500 or less. They were free to design their own programs as long as the annual percentage rate on the loans stayed below 36%, payment periods extended beyond a single paycheck cycle and little or no origination fee was charged. The data collection is to end in February, though the agency has set no timetable for the release of the guidelines.
Rae-Ann Miller, a special adviser to the FDIC's director of the division of insurance and research, said that, through June 30, participating banks had made 24,000 loans totaling about $24 million.
Delinquencies have been higher than average, which Miller said is not surprising since the borrowers generally have low incomes and credit scores under 600. But she said that banks have taken some comfort from the fact that chargeoffs have been in line with the national average.
The $712 million-asset National Bank of Kansas City in Overland Park, Kan., had no small-dollar loan program when it was asked by the FDIC to participate in the pilot program. Chief lending officer Stacy Nickel said the bank originates five to 10 such loans a month at a 22% annual percentage rate.
The loans are available only to those who live in the Kansas City area, and most borrowers are already National Bank's customers, Nickel said.
So far, the payoff has been minimal. About 15 borrowers have opened deposit accounts through the program, and a handful of others looked into first-time homeowner opportunities, but could not qualify for a mortgage.
"We don't really see a profit due to the underwriting, the credit reports we have to pull and time spent reviewing the documents," Nickel said.
Still, the bank intends to continue offering the loans even after the pilot program ends because it believes they help build loyalty, she said.
That's not to say small-dollar loans cannot be profitable from the outset. By keeping its overhead low, the $92 million-asset Bank of Commerce in Stilwell, Okla., has been making money on the loans since it started offering them in early 2008, said Jason Garhart, a vice president.
Bank of Commerce lends up to $1,000 and charges 13.75% annually, plus an origination fee of $25 to $50. It also requires borrowers to open a savings or checking account — a key step to improving their financial standing.
Garhart said that his bank originates about 10 such loans a month and that only two have had to be charged off so far.
It could make more of the loans but has kept volume to a minimum so that it would not have to add staff.
"It's profitable because we don't have to add overhead," Garhart said. "If we had to hire somebody else, that would be different."
The largest institution participating in the test is the $10 billion-asset Wilmington Trust Corp. in Delaware. Under its program, the company collaborates with a local nonprofit to offer small-dollar loans to low-income people in need of quick cash.
Wilmington Trust said it has originated about 500 such loans, totaling $200,000.
The nonprofit has received grants to cover the cost of any chargeoffs, so Wilmington Trust is protected from losses, said Rebecca DePorte, the company's senior vice president of personal financial services.
"If we were looking at this as an independent project and a way to generate profit, would we do it? Probably, but it wouldn't be prioritized," she said. "It's more important for the community that we do this."