Also called “B/C Paper”, “near-prime”, or “second chance” lending, is a general term that refers to the practice of making loans to borrowers who do not qualify for market interest rates because of problems with their credit history. A sub-prime loan is one that is offered at a rate higher than A-paper loans due to the increased risk. Sub-prime lending encompasses a variety of credit instruments, including sub-prime mortgages, sub-prime car loans, and sub-prime credit cards, among others.
Sub-prime lending is typically defined by the status of borrowers. A sub-prime loan is a loan made to someone who could not qualify for a more favorable rate. Sub-prime borrowers typically have low credit scores and histories of payment delinquencies, charge-offs or bankruptcies. Because sub-prime borrowers are considered at higher risk to default, sub-prime loans typically have less favorable terms than their traditional counterparts. These terms may include higher interest rates, regular fees or an up-front charge.
Proponents of the sub-prime lending in the United States have championed the role it plays in extending credit to consumers who would otherwise not have access to the credit market. But opponents have criticized the sub-prime lending industry for predatory practices such as targeting borrowers who did not have the resources to meet the terms of their loans over the long term. These criticisms have increased since 2006 in response to the growing crisis in the U.S. sub-prime mortgage industry, wherein hundreds of thousands of borrowers have been forced to default, and several major sub-prime lenders have filed for bankruptcy.