The Co-operative Bank adopts risk-based pricing for its personal loans, bringing sharp interest rate benefits to borrowers with a good credit score

In what is likely to be the start of a growing trend at banks, the Co-operative Bank has re-priced its personal loans on a risk-based basis.

Banks have had fixed carded rates for this type of lending for a long time with the only distinction being whether the loan was unsecured, or secured on other customer property.

But the emergence of 'positive credit scores' in New Zealand, and the coming of peer-to-peer personal lending which started with risk-based pricing, banks are finding they need to respond with similar plans.

A single carded rate takes little account of the customer's credit profile. Rivals that reward 'good credit histories' find they can attract such customers with lower rates which leaves those that don't offer such benefits with a pool of clients with worse credit histories.

For this reason alone, the personal loan market will move this way. Personal loan borrowers are about to find out the real value of 'good credit'.

The new Co-operative Bank loan pricing signals how this may work.

Their ‘risk-based’ approach considers factors such as a consumer’s credit bureau score, adverse credit history (if any), employment status and income.

In the Co-operative Bank's case, they also offer discounts to their interest rate (above) if certain conditions can be met. For example, they give a -1% pa reduction if the borrower has their main income paid into their everyday account.

Borrowers could also get -0.50% pa. interest rate discount for having two of their insurance policies*.

The Co-operative Bank says a personal loan rate of 13.95% will apply to the majority of their applicants, which could be reduced to 12.95% if your bank is the Co-op, and can further reduce to 12.45% with the insurance discount offered.

This new pricing is highly competitive for the likes of vehicle finance and renovations. For many, this will make a personal loan an attractive and convenient option versus topping up a mortgage where their existing loan may already be close to 80% of value of their home or where the total cost of interest may in fact be higher based on taking longer to repay the debt when added to their existing mortgage balance.

All this will be good news for borrowers with good credit histories. But things will get tougher for those that don't. Removing good borrowers from a general pool makes costs and conditions harder for those who are struggling with debt management.

Because this change is likely to become industry standard, people with bad credit need to take it seriously. The sooner you get your score improved, the less hassle your money life will be.

Equifax (ex- Veda) and Credit Simple (Dun&Bradstreet) are among the agencies running local credit scores. You can find yours at both, free (although the Equifax free offer is hard to find). A downside is that both companies run their modeling independent of each other and that can give different scores. The score that matters to the lender is the one whose service they are signed up to (Equifax in the Co-operative Bank's case).

"Positive credit scoring" is an American institution - you may have heard of the FICO Score, an Equifax product - and it is somewhat addictive because it plays an important role in the way merchants and the financial industry views their potential customers. That 'addiction' is fed by people with good credit scores who don't see why they should pay more on average to cover the risks of those with poor scores.

It may only be a matter of time before credit scores start to affect credit card interest rate offers in the same way.

Finance companies have had risk based pricing for a long time and new disclosure requirements mean you can now find out the full range of their interest rate offers. They are set out and compared here and here. 

Bank pricing for those with weak credit scores will be higher, but ASB shows this is capped at 19.95% and the Co-operative Bank's top rate is 19.50%. These levels are far below most finance companies (which can range to over 30%) and some peer-to-peer lenders which can range up to the high 30%s.

The other cost every buyer should watch out for is the "loan processing fee" which both banks, finance companies, and peer-to-peer lenders all may apply. Most of the major banks charge $250 for this; the Co-operative Bank charges $200. Depending on the loan amount, some finance companies can charge up to $490. One peer-to-peer lender charges a flat $500, another has a platform fee range of $250 to $1,450 depending on the amount borrowed.

* Asset Care (home or contents), Life Care, Life Plus: can apply to more than one loan. Loan Plus, Loan Installment Care: must be for the loan the discount applies to.