How finance companies differ from credit cards, banks


How finance companies differ from credit cards, banks
How finance companies differ from credit cards, banks

Whether it's buying a car, paying medical bills or purchasing furniture, if you've had to finance one of life's big-ticket items, you've probably been offered the chance to take out a loan from a finance company.

They're the less-regulated alternative to getting a loan from your bank or putting the charge on your credit card. Usually, a finance company offers a secured or unsecured personal loan. Before signing on the dotted line with a finance company, understand exactly what you are getting into.

What finance company loans are (and aren't)
Sometimes these products are marketed as credit cards, when they really aren't.

Medical "credit cards," in particular, "can be very loosey-goosey about the term," says Linda Sherry, spokeswoman for Consumer Action, which in 2014 released a survey of medical cards.

Such products are not subject to the same regulations as credit cards.

Borrowing money from a finance company isn't necessarily a bad idea, but you should first learn what these companies are, how they operate, who regulates them, and what protections you have if you run into problems.

What are consumer finance companies?
Unlike a bank or credit union, finance companies do not accept deposits. They just loan money, sometimes with fixed terms and sometimes not. "Some offer a big range of products, some specialize," says Chris Kukla, senior counsel for government affairs with the Center for Responsible Lending.

The most well-known issuers of these products are automobile finance companies, such as Toyota Financial Services or Ford Credit. These are owned by auto manufacturers and make loans to consumers purchasing vehicles from those particular brands.

If you have strong credit, you have a good chance of getting a low-interest auto loan through an auto finance company.

If your credit is not stellar, an auto finance company that specializes in the subprime market may offer you a loan, but at a much higher interest rate.

CarePayment of Lake Oswego, Oregon -- which works with health care providers nationwide and provides a way for people to pay medical bills -- is another example of a finance company. It offers consumers a revolving line of credit at a 0 percent annual percentage rate. 

Furniture and appliance stores, such as Seffner, Florida-based Rooms to Go, also offer consumers a line of credit through a finance company.

Who regulates finance companies?
Consumer finance companies are licensed and regulated by the state in which they operate. Depending on the size of the company, it may be licensed in one state or dozens of states, says Danielle Fagre Arlowe, senior vice president of the American Financial Services Association, a trade association for the consumer credit industry that represents traditional installment lenders, such as the big auto finance companies.

That is different from credit card issuers, which generally are regulated by federal authorities. The Office of the Comptroller and the Currency (OCC), a division of the U.S. Treasury Department, regulates national banks that issue credit cards, while the National Credit Union Administration supervises federal credit unions.

Meanwhile, state banking regulators oversee state-chartered banks or credit unions.

Finance companies have to adhere to the laws in the states in which they are licensed, Kukla says

That means a finance company can do things that are not expressly prohibited by law in the state in which it operates, Kukla says: "It may be abusive, but if it's not prohibited by law, there's nothing the state can do."

Because of variations in state laws, a finance company may have different loan terms in different states, Arlowe says. So a consumer in Georgia may be charged a different interest rate or have a different loan payoff schedule than a consumer in Texas.

One big segment of finance companies has a new regulator. The Consumer Financial Protection Bureau (CFPB) -- which supervises and enforces federal consumer financial protection laws, including those surrounding credit cards -- is taking over the supervision of major auto finance companies.

Under a rule issued June 10, 2015, the CFPB will have authority over companies that make, acquire or refinance at least 10,000 auto loans or leases per year. The bureau estimates that 34 auto finance companies would fall under that regulation, and these account for about 90 percent of all auto loans and leases not made by banks. Together, these companies provided auto financing to nearly 7 million consumers in 2013. 

The rules mean auto finance companies will be not be allowed to use deceptive practices to market loans or leases, or mislead consumers about the loan benefits or terms. The companies also must provide accurate information to credit bureaus.

Auto finance companies also will be prohibited from discriminating against consumers when lending based on factors such as someone's race, gender, and age, or based on whether the person receives public assistance. Illegal debt collection practices are banned, and the CFPB will review automobile repossession processes.

The new rule is scheduled to take effect in August 2015.

What are typical finance company practices?
Unlike credit card companies, finance companies are not required to give consumers the same payment due date each month. While many require you to pay your bill by the same date, in other cases it is a moving target. So your bill may be due on the 22nd one month and the 21st the following month.

If you don't pay on the proper date, you might be charged a late fee or required to pay a higher interest rate, Kukla says.

There also might be other risks. For example, imagine you are shopping at an appliance store offering 0 percent financing for 24 months. It may sound like a good deal, but if you read the fine print, you may see that it is a "deferred interest" deal. If you miss a payment or fail to pay the loan off in 24 months, you could end up paying a steep interest rate, and have interest added in from the time you took out the loan, Kukla says.

Many finance companies report your payment record to the three main credit bureaus, helping you build a credit history, Arlowe says. However, they are not required to report such payments.

Complaints are the only real way to tell what kind of lender they are.

-- Chris Kukla
Center for Responsible Lending

CarePayment, for example, does not report payments to the major credit bureaus.

Kukla warns that some finance companies may only report to the credit bureaus if you are late making payments.

Other finance companies, such as those associated with major automotive companies, will treat you well because they have the automakers' reputations to protect.

"You need to know who you're dealing with," Kukla says.

How to choose a reputable finance company
If you are considering getting financing through a finance company, you should check to make sure it is licensed in your state, Sherry says. The department that regulates these companies varies from state to state.

Knowing your credit score before you seek financing can give you more leverage when negotiating a loan with a finance company or other type of lender, she says.

Kukla recommends checking with the CFPB, the Better Business Bureau and ratings websites for complaints about the company you are considering.

"Complaints are the only real way to tell what kind of lender they are," Kukla says.

What if you have a complaint?
The CFPB will accept complaints about a finance company and will channel them to other regulators, Sherry says.

You can also complain about a finance company to your state attorney general's office, and to state regulators.

See related: Improving your credit mix for a better score, New protections from financial 'gotchas'

Updated: June 11, 2015

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