For Consumers, One Product = One Service
I learned from my days in the Consumer Electronics industry that most hybrid or combination products don’t make sense. For example, while well over 90% of people who have a TV also have a DVD or Blu-Ray player, nobody would buy a combination TV set + DVD/BR. Even when TVs used to be big and fat and had room for a built-in VCR, TVs with built-in VCRs stayed unsold on store shelves.
This is because consumers associate one device with one function: watching TV is not the same as watching movies, even if the same screen is being used technically.
Granted, today’s smartphones look like the Swiss-army knives of consumer electronics, but they are really a whole new category of personal companions built around a new type of interaction not inherited from prior devices: the touch screen.
Consumer confusion is a terrible thing in more than one way: it can even hurt people. This is exactly the point that the Consumer Financial Protection Bureau is making when writing up 100’s of pages of proposed rule making about credit being extended out of prepaid cards through overdraft facilities. A credit card looks exactly the same as a prepaid card: a very standardized rectangle of plastic. The only difference between the two is that the prepaid card has the word “debit” printed on its front. And just to increase the confusion, why “debit” when it should really say “prepaid”? And why offer prepaid cardholders the option to run a transaction through the credit rails anyways??
On the one hand, a prepaid card with no overdraft capabilities is a very safe product: nothing wrong can happen to the cardholder except the embarrassment of being declined for insufficient funds. On the other hand, a credit card can drive cardholders into more debt than they can afford and can damage their credit score. Unfortunately, everything about prepaid versus credit cards, from the physical device to the choice of credit versus debit network is prone to creating confusion in the mind of cardholders.
Prepaid Cards and Credit Complement Each Other
Remarkably, prepaid cards and credit can be made to work together in a very powerful way and without confusing consumers: by either using prepaid cards as a precursor to credit or by using prepaid cards as a channel for credit disbursement and loan management.
Prepaid cards can be a stepping stone towards short term credit, in particular for people with no or thin credit files.
Under-banked people as well a Millenials and recent immigrants use prepaid cards as substitutes for checking accounts. A paper checkbook being the only thing missing from the best prepaid card accounts, when compared with regular checking accounts, people can deposit their salaries and tax refunds, pay bills, pay in shops and even set money aside in the built-in saving purses of prepaid cards.
For such users, prepaid card usage history can be leveraged in much the same way as checking account usage history to evaluate how much money people have access to, and how responsible they are in its management. Prepaid card usage can either be used in the underwriting process of granting a loan, or can be used to pre-qualify people with the best chances of success with certain types of loans.
For example, prepaid cardholders who have been able to set aside $300 in the savings purse of their prepaid card, and have organized the regular direct deposit of their salary in the card have significant chances of being approved for a secured credit card, if they agree to turn the $300 they had saved into the required security deposit for the credit card. Prepaid cardholders with recurrent direct deposits but without a savings “pocket” may be eligible for an unsecured loan of the kind provided by LendUp.
The loan product that prepaid cardholders may qualify for is completely separate from the prepaid card and does not need to be issued by the same financial institution.
The US Treasury is devoting a part of its recent Financial Innovations fund to researching how prepaid cardholders and safely by offered access to secured credit cards and what type of financial guidance will help them be more successful once they have been approved for a secured credit card. The project participants are Banking Up, the Consumer Federation of America, Payments Law and the Marketing and Consumer Policy Office of the George Washington University School of Business.
In the opposite direction, someone having been granted a short term loan could choose to receive the proceeds of the loan into either an existing or a new prepaid card, mostly for the purpose of separating the loan money from the rest of their finances and facilitate the management of the loan for its intended purpose.
People who open a savings account at the same time as a checking account are provably more responsible with their money than bank customers who don’t.
Oportun has disbursed $1.3B to more than 485,000 customers and is offering a prepaid card to their repeat customers as a way to help them better manage their loan money.
Even borrowers who are already banked benefit from being offered the option of receiving their loan into a separate prepaid card as it helps them keep their resolutions to use the money for specific goals.
Credit with Upstream or Downstream Prepaid
The industry has attempted so far to build prepaid with credit products by adding overdraft or other very short term lending options to prepaid cards. This has all the trappings of a two-in-one product that will confuse many customers.
Instead, the market should deploy credit with prepaid products, where a prepaid card is used either as a precursor to credit or as a vehicle for receiving the loan money. This will increase both the number of people who are eligible for good and safe short term credit, and the odds that they will be successful with the resulting loan.