Are subprime loans socially responsible?

If subprime loans had been created to share the American dream with those who might not otherwise be able to participate; then the decline of the economy might not have triggered massive foreclosures, however that is not the case. Subprime loans were created to extract the maximum value out of homeownership (Watkins, 2011). Just knowing this information and the information presented in the two previous blog post causes us to examine two important questions to determine if subprime loans are socially responsible. The first question to consider should be is there a significant racial divide or are subprime loans proportionately distributed?  The next question should be what are the consequences from making these types of loans? First we noted that subprime loans are proportionately sold to African Americans more than any other group if we looked at the rates of subprime loans sold to African Americans with an average income between 60,000 and 90,000, over half approximately 57.3 percent are sold higher interest rate loans. While the white counterparts who are in the same average income range only account for 33.2 percent of the loans at the higher interest rates (Beeman, Glasberg & Casey, 2011). This leads us to ask about the decision makers. As institutions depend on individuals to make these decisions how is it possible that these decision are being made across the board?  Decision makers are tasked to use personal, situational, and environmental knowledge to make an ethical decision (Thiel, Bagdasarov, Harkrider, Johnson, & Mumford, 2012). However knowing that these loans are designed to increase over time it becomes easy to see the motivations for making the loans. The consequences of these types of loans can devastate a household and subprime loans in particular account for almost 50% of foreclosures of all mortgages (Johnson, 2010). However the maker of the loan still got paid, and someone will take over the loan and the lender will eventually be paid, while the borrower has suffered the loss of their home and blows to their credit that was already low to begin with.  When subprime loans are written for the benefit of all responsible parties involved they can indeed be a socially responsible investment, but they should not be entered into without careful consideration and without weighing out all of the options before hand to make sure it is best for all involved.

What is a subprime loan?

Subprime loans are loans with less favorable terms than that of a prime loan. The terms are usually less favorable because the person in question has either poor credit or does not have the necessary income to support or warrant the extension of credit. There are risks involved for the lenders, and for the borrowers. Lenders run the risk of never getting their money back or having it take a long time to see any return on their investment. So in order to absorb some of the risk there are stipulations often added to help insure the lender will get their money back. This often includes adjustable interest and ballooning payments (Smith, & Hevener, 2014) for the life of the loan.  Many of the borrowers of subprime loans tend to be African Americans. Many African Americans are served in their loans by agents that specialize in higher rate loans regardless of their total income (Beeman, Glasberg, & Casey, 2011), this speaks to the other issues of subprime loans and predatory lending that cause us to question the leadership in institutions and the ethics involved in the decision making process. However this is not just because African Americans are less likely than their white counterparts to receive home loans from any sources, because they are more likely to accept subprime loans and therefore are more likely to be victims of predatory lending (Lacy, 2012).  This begs the question of why subprime loans are pushed more towards minorities. It seems to me that the only way to grow the amount of home owners is to either allow those who can’t qualify for prime rate loans to work towards a prime rate loan, or create a separate type of loan that would provide a pathway for those who might never get to a place financially that would allow them to take advantage of a prime rate loan. However in the creation of these types of loans there should be added safety policies that protect the borrowers from those who would harm them and seek to make money off of their circumstances outside of the additional assessment of interest or payment obligations. This would assist leadership in making ethical decisions about what a borrower can afford and how they can still make money off of the transaction.

What’s the big deal with subprime loans?

In order to understand the impact of subprime loans, it is necessary to understand the goals that drive the economy. In this blog we cannot cover the full gambit of measures that drive the economy, so for the purpose of this blog we will focus on home ownership. One of the ways the government strives to grow the economy is through home ownership for moderate to low-income families (Avery, & Brevoort, 2015). This benchmark goal set in to motion loans for mortgages with people who were not financially in a position to actually purchase a house. Many of these people were considered a high credit risk. Many were either not making the actual income they claimed in order to afford the home, or they were not credit worthy. This lead to loans being made with adjustable rates, or ballooning interest rates. All was well as long as the economy was stable for many of these people. The American dream of home ownership seemed to finally be coming true. However when the economy began to take a down turn there was concern this dream quickly began to turn into a nightmare. In 2007 over a million homes began to be foreclosed on as a result of the failing economy (Gilbert, 2011). Many of these foreclosures took place as a direct result of the subprime loans that were made in order to grow home ownership. Many argue that the it was unethical to make such loans to people, however it is my opinion that it was not necessarily the loans, but the amounts the loans were being written for. Many loan officers may have acted unethically in the amounts they were approving and the verification of the information given. These foreclosures also seemed to effect African Americans disproportionately because many of the loans written to African Americans allowed interest rates to grow beyond the risk being assed (Beeman, Glasberg, & Casey, 2011).  So the facts those loans were being made to people who could not normally afford a prime rate loan, or a loan with an average interest rate, and were often being over sold into a house they could not afford and charged more interest than they could afford made it a perfect unethical storm when the economy began to fall and homes began to be foreclosed on. This is why subprime loans were discussed as a viable factor of the failing economy.