subprime loan

Subprime loan. Lenders may make subprime loans to borrowers who would not ordinarily qualify for credit if customary underwriting standards were applied. To offset the increased risk that these borrowers might default, lenders charge higher interest rates than they offer to creditworthy borrowers and assess additional fees.

While subprime rates vary from lender to lender, the Federal Reserve defines a subprime loan as one that carries an interest rate at least three percentage points higher than the rate on a US Treasury bond that has the same term as the loan.

Subprime loans may provide credit to responsible people who may not have a strong credit history. However, subprime lending practices can be abusive or predatory, trapping unsophisticated borrowers in a cycle of debt while providing initially large profits for the lender.

Lenders with large portfolios of these loans are vulnerable to major losses in market downturns.

Subprime loans can be securitized and sold to investors as pass-through securities or in more complex packages such as collateralized debt obligations (CDOs). Individual and institutional buyers purchase these products for the promise of higher than average returns despite the greater risk of default.

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subprime loan

A loan at higher interest rates because the borrower does not qualify,for credit or income reasons,for the best rates.

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Subprime Loan

What Does Subprime Loan Mean?

A type of loan that is offered at an interest rate far above the prime interest rate; usually extended to individuals who have poor credit and do not qualify for prime rate loans. Quite often, subprime borrowers already have been turned away by traditional lenders because of their low credit ratings or other factors that suggest that they have a reasonable chance of defaulting on the debt repayment.

Investopedia explains Subprime Loan

Subprime loans tend to have a higher interest rate than the prime rate offered on traditional loans. This additional interest charge can translate into tens of thousands of dollars in additional interest payments over the life of the loan. However, a subprime loan can be helpful if it is used to pay down other debts with higher interest charges. The specific amount of interest charged on a subprime loan is not set, and lenders will value a borrower's risks differently. Therefore, not all subprime loans are alike.

Related Terms:
• Credit Rating
• Interest Rate
• Liar Loan
• Securitization
• Subprime Meltdown