Carillon: what the popularity of neobanks could mean for the future of credit and lending

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In so many industries, technology and the passage of time regularly innovate and adapt old ideas. Think about taxis and the subsequent creation of services like Uber and Lyft. While we might not immediately understand why someone would want to contact a stranger through an app to take them home, it’s now common to use a rideshare app rather than traditional taxis.

When it comes to credit cards, drastic changes over time have been the order of the day. The credit card history The industry in the United States dates back to the turn of the 20th century, when Western Union began issuing metal plates to its customers, which allowed them to defer paying debts to a later date. By the time the Metal Plates were released the system was new and exciting – why would you want to change it?

Then came the Charge-It card, the first closed-loop credit card. Soon after, a man named Frank McNamara forgot to bring his wallet to dinner and The Diner’s Club – the first example of a “modern” credit card – was born.

Over 70 years later, the credit card industry is still innovating with the times. But what’s the next change that credit card owners can look forward to? While the future is never frozen, the emergence and growing popularity of neobanks such as Carillon could show that change is on the horizon again.

What are neobanks and how are they different from traditional lenders?

A neobank (sometimes called a challenger bank) is a bank that operates online without a physical location. While there is no single definition of what is and is not a neobank, some of the big players in the US market include Chime, Simple, Good Money, and SoFi.

Besides the lack of physical branches, neobanks differ from traditional banks in several ways. On the one hand, neobanks may not be licensed as financial institutions with federal regulators like traditional banks. Neobanks are trying to forge a new frontier in the financial industry by leveraging online data acquisition against traditional banking and lending practices. Consumers interested in neobanks should not expect the same consistency in lending rules and practices that come with banking at a traditional bank. Neobanks are still fairly new in the grand scheme of banking and are therefore more diverse in the services they offer – and the way they deliver them – than traditional banks.

Most of the banks and financial institutions that are popular today use credit-based scoring models (like a FICO score) to determine how likely you are to repay a loan. Neobanks ignore this scoring model and instead use an “enrollment analysis” of online data to better understand a person’s financial health. This process may include analyzing a consumer’s receipts and monthly spending patterns to determine the type of loan they are eligible for. This recent practice of determining creditworthiness is particularly beneficial to the approximately 55 million underbanked Americans living with little or no access to traditional financial services.

The early popularity of neobanks abroad

The title of ‘first neobank’ is hotly contested, but it’s fair to say that when it was founded in 2009, Australian software developer John Reich’s company BankSimple set a precedent for the business models of upcoming new neobanks. .

Currently, the largest and most popular neobanks still exist largely outside the US market, but that may change soon. The most used neobank today is Nubank, a financial technology company based in Brazil. Nubank was founded in 2013 and now serves over 20 million customers. Companies like Nubank are an example of what neobanks might look like in the United States. Nubank, for example, currently offers credit cards, which is not yet a feature you’ll see with many American neobanks.

Neobanks and credit cards

When it comes to credit cards, neobanks can make credit more accessible, but at the end of the day, they are always financial institutions interested in making a profit. Popular neobanks in Europe, Australia and Brazil have shown that challenger banks can make money with credit cards, much like traditional banks.

While each neobank might have their own loan and fee models, they still generate income by charging interest and taking a percentage of all credit and debit transactions made with their cards. In the United States, neobanks like Chime have yet to offer customers a real credit card, but they have entered the credit market nonetheless.

Carillon

Chime is one of the most popular neobanks currently operating in the United States with eight million customers. Founded in 2013 by Chris Britt and Ryan King, Chime’s mission statement says they are focused on “creating a new type of bank account that helps members move forward by making it easier to manage. money ”.

But are these American neobanks really building a “new type of bank”?

Chime is currently focusing on its debit cards and checking account options. Benefits of banking with Chime include overdraft protection called “SpotMe” and their early deposit system that allows customers to get their paychecks up to two days in advance. As with all banks, Chime makes money in several ways. Their debit card is issued by Visa and Chime receives fees from merchants who accept the card. Additionally, Chime also asks its customers for tips after using services like SpotMe or an early deposit, although they take care to clarify that tips are not. technically mandatory to avoid pretending to be a payday lender.

While the practice of transferring money to clients before payday is certainly unique in traditional banking, small loans (to which their early deposit system can be compared) are nothing new. Chime’s current success stems from its mobile-friendly banking approach that appeals to cash-strapped millennials. If they really want to create a “new kind of bank,” they still have their work cut out for them.

What the future of neobanks could mean for credit and lending

Today, the ingenuity of neobanks is best exemplified in their credit and lending practices. While there is nothing revolutionary about another online banking app with some benefits, big overseas neobanks like Nubank have shown that a fundamental shift in lending is possible thanks to competing banks. If neobanks continue to be successful under their current business models in the United States, it’s safe to say that credit cards are on the horizon for many of the larger neobanks.

In January 2020, FICO announced its new scoring models, FICO Score 10. Among the changes made by the credit scoring service was the announcement that they will weigh more heavily on a consumer’s missed payments and debts when calculating a credit score. This update also highlights a gap that could form between traditional banks and neobanks that don’t always use FICO scores as a determining factor in a consumer’s creditworthiness.

For the underbanked population in the United States, access to credit may seem like a catch-22 situation. In order to get your first credit card, you usually need a credit history that the issuer can analyze. But, you need a credit card or an on-time loan payment history to build your credit in the first place. Neobanks are paving the way for a new method of determining creditworthiness that does not lock young people or underbanked people into an endless loop of demands and rejects.

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