History Of Subprime Lending
Subprime lending was made legal after the US federal government deregulated the lending industry. However, even prior to that this form of lending was going on, but was not known as subprime lending. |
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Subprime loans initially started out as bridge loans to help a borrower finance one property while another was being sold. These loans were never intended to be primary loans to finance buying of a primary residence. Basically it was to help a borrower buy a new house until his old house was sold. Then the money from the sale of the old house was used to repay the subprime loan.
Many wonder about the history of subprime lending and how loans went from bridging loans to primary loans to borrowers who did not have creditworthiness. The answer lies in deregulation of the banking industry that took place in 1980s. This led to the interest rate rising to unimaginable heights. As a result, owning a home became a distant dream for many Americans, especially those who did not have high credit scores.
In order to make housing available to all, subprime adjustable rate mortgage was conceived. Now even people with low credit scores could avail of mortgages which otherwise they would not have qualified for. The adjustable rate mortgage started out with low interest rate, and to attract borrowers, subprime lenders were also including private mortgage insurance to ensure that they protected themselves in case the borrowers defaulted on the loans.
The banking industry realized that by increasing the interest rate, closing fees and other associated fees, they could hedge the risk of lending money to a borrower who was seen as a credit risk. At the same time, they could also make a huge profit. This ultimately gave rise to subprime lending as is prevalent in the loan industry today.
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