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Lenders keep losing on inflated residuals

Lenders continue to suffer appalling losses on off-lease residual values.

The latest casualty is Bank of America, which quit auto leasing Aug. 15 and took a $256 million hit to cover expected losses on residuals. That takes the bank’s total loss reserves on leases to $700 million.

Several big banks and independent finance companies quit or cut back on leasing last year, but Bank of America has been the biggest bank to stop writing new leases. The bank has a lease portfolio of $9.7 billion, which it will continue to service.

Leasing is not for the fainthearted in light of an oversupply of off-lease vehicles and factory incentives on new vehicles. Incentives tend to depress the value of used vehicles even more.

An estimated 3.2 million off-lease units should return to the U.S. market for 2001, compared with about 3.1 million in 2000, according to CNW Marketing/Research in Bandon, Ore. Art Spinella, CNW vice president, said about 1.4 million of the 2001 total will be returned to captive finance companies, and about 1 million will be returned to banks, finance companies and credit unions. Dealers, who sold the units, will buy about 850,000, Spinella said.

For residual values alone, the average loss per unit for 2001 is an estimated $1,575 for the industry, up from $1,300 in 2000, he said.

According to the latest Consumer Bankers Association auto finance poll, 95 percent of the vehicles returned to lenders at the end of a lease generated a loss in 2000, compared with 84 percent in 1999. Members of the Arlington, Va., association include most captive finance companies and big banks.

Counting residual losses plus the expense of moving, reconditioning and selling off-lease units at auction, the average loss per unit was $2,342 in 2000 compared with $1,920 in 1999, the bankers association reported.

Lenders also have themselves to blame for artificially inflated residual values. In leasing, the customer borrows the difference between the upfront cost of the vehicle and what it will be worth at the end of the lease. That is the residual value. A higher residual value means lower payments, since the customer has to borrow less. Lenders commonly inflate residual values to lower monthly payments, and they set reserves aside for the future loss. But reserves may not cover the difference if the resale value of the off-lease vehicle is lower than expected, especially at a wholesale auction.

There was some good news for lenders in the Consumer Bankers Association survey: A smaller percentage of vehicles were returned to the lender at the end of the lease. Survey respondents said that 46 percent of leased vehicles that reached full term were returned to the lessor in 2000, down from 56 percent in 1999.

You can reach Jim Henry at autonews@crain.com

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