Retail credit is either a fixed amount loan or a credit facility with a revolving limit. Here are some examples of the most common retail credit products.
The current account, also known as a checking, salary or demand account is a transactional account that may be granted an overdraft limit. An overdraft limit allows the customer to withdraw funds from the account beyond the credit balance to a maximum debit balance that matches the ceiling or the allowed limit. This type of overdraft account is very common and copes with customers’ needs for shortage of liquidity. Most banks charge high interest rates on this facility, along with commissions. It is considered a revolving account since the borrower can settle any part of his or her limit and then re-withdraw again as long as it is within the agreed limit.
The credit card is considered the most profitable retail credit product as it carries a high interest rate plus a variety of charges such as membership fees, renewal fees, supplementary card fees, increased limit commission, late payment commission, interchange fees, foreign exchange fees, cash withdrawal fees and many other types of commissions. Credit cards – apart from secured credit cards – are mostly of a revolving credit nature which allow the cardholder to withdraw cash or make purchases within the card’s credit limit once the monthly amount is paid off in time.
From a bank’s point of view, cardholders differ by their nature and behaviour. There are cardholders that make use of the card’s full limit but pay only the minimum required payment every month: those are the most profitable customers. There are cardholders that pay off their borrowings immediately upon issuance of the month-end statement to avoid interest payment. These are very low profit customers, leaving the bank to earn only commissions and fees, and not revolving interest.
The classic charge card is issued by American Express, which continues to issue a wide range of such cards.. The charge card is a credit card by nature as it is a ‘pay later’ card. Like a credit card, the charge card has a credit limit, but the due amount must be paid in full at the end of the month, and there is no interest charged on the due amount. The main source of profits come from high interchange fees and membership fees. American Express is also a major issuer of revolving credit cards.
Now challenging credit cards across the world, BNPL is a form of consumer lending where the consumer pays off the purchase in a series of instalments. Credit is typically available at the point of sale and is usually funded by banks or BNPL finance specialists.
The personal loan is a fixed amount loan that meets the needs of the majority of retail customers due to flexibility in respect of the purpose of the loan. Customers use these to cover an urgent need for cash. Personal loans can be secured or unsecured, but most of the time they are unsecured. Due to the fact that personal loans are mostly unsecured, banks tend to offer personal loans for shorter durations of up to five years and in smaller amounts when compared to collateralized or secured loans.
The auto loan is a dedicated fixed amount of loan to finance the purchase of a car. In some cases, banks may finance the purchase of a second-hand car. An auto loan can be secured or unsecured depending on the nature of the collateral. If country laws allow car mortgages, then the car could be mortgaged and granted a secured auto loan. In some cases, banks do not allow the borrower to own the car title until final settlement of the loan, when the bank transfers the title to the borrower.
Normally auto loans are of longer duration (between 5 to 10 years) and in higher amounts than personal loans due to them having collateral. The value of the car has to be verified with the price index available in the market in order to decide the loan to value (LTV) ratio.
Typically, the bank deducts a “haircut margin” from the car value to protect itself from the possibility that the value of the collateral may fall for any reason. For example, if the car is valued at $100,000 and the bank decides on a haircut of 30%, the loan amount would be $70,000.
The mortgage loan is the most common retail credit product. The advantage of such a product is that it is offered against real estate collateral that is mortgaged in the bank’s name. Such valuable collateral allows the bank to offer loan durations that can go up to 30 years. It also allows the bank to grant larger loans compared to other types of retail credit.
Such a loan involves the bank verifying the value of the real estate through listings available in the real-estate market, along with verifying the ownership of the borrower. A bank also needs to verify that the property is free from any charges or mortgages before proceeding with the loan request. The bank then calculates the loan to value ratio of the real estate, allowing a proper margin from the house value. The bank must monitor the status of the collateral through the duration of the loan to make sure there is no deterioration in the value of the house.