Definition
The full loan refers to a single loan issued by banks or other lending institutions that is not pooled for resale in the secondary market.
Definition and Examples of Full Loans
A full loan is a single loan issued by a financial institution. One example is a mortgage loan secured by the property that is granted to a single borrower and serviced by the lending institution. Paycheck Protection Program (PPP) loans are also full loans. These loans were granted during the 2020 pandemic to help small businesses cover payroll.
Full loans are an alternative to securitization, which is when a financial institution pools several loans and issues a security backed by those loans, known as a mortgage-backed security (MBS). These securities are then fragmented and resold to investors.
Full loans are not fragmented; hence the name. Lenders can either resell full loans or keep them on their books. In the latter scenario, the loans remain financial assets for the lending institution. The financial institution collects payments on the loans and bears the risk of borrower default. These loans become part of the financial institution’s full loan portfolio.
How Full Loans Work
Lenders offer many types of loans to borrowers. These may include mortgage loans or personal loans. Generally, lenders assess credit and other factors to determine the likelihood of default by the borrower.
Once a lender issues a loan, they can continue to service the loan and collect payments on it each month. In this case, the lender bears the risk of borrower default. If the borrower fails to repay the loan, the lender will need to pursue collection activities. In the case of default, the lender will write off the loan as a loss or, in the case of a mortgage, may foreclose on the home.
Lenders can also resell full loans to investors. Investors can review the offered loan portfolio to determine the likelihood of default when deciding how much money they will pay for full loans. The buyer then assumes responsibility for collecting payments and the risks associated with default.
Banks and other financial institutions are among the investors who may purchase full loans. The activities of loan purchases are subject to regulatory guidelines to ensure that financial institutions adhere to sound risk management principles.
Alternatives to Full Loans
Instead of holding full loans, banks may pool loans and then issue securities backed by those loans, where the security represents a claim on the income from the loans. These securities can be split into different pieces, called tranches, based on the quality of the loans backing them. Mortgage-backed securities are a common example of this.
The loan servicing firms still manage the loans that investors do not directly own. Instead, investors in mortgage-backed securities are purchasing the right to receive payments resulting from the mortgage loans.
Mortgage-backed securities offer benefits to investors that full loans do not provide. Mortgage-backed securities are more liquid, or easier and quicker to sell than full loans. They can also attract a broader range of investors than full loans, meaning there is more money available for lenders to issue new mortgage loans to consumers.
However, mortgage-backed securities come with downsides. It can be difficult or impossible for individual investors to assess the quality of the loans pooled in mortgage-backed securities.
Note
In the period leading up to the financial crisis of 2008, some lenders misled investors about the quality of the loans pooled in mortgage-backed securities. This was a major contributing factor to the crisis, as investors believed their securities were safer than they actually were.
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In mortgage-backed securities transactions, there are more people than the lender keeps in their records. This can increase costs and lead to potential conflicts of interest. For example, lenders may have an incentive to approve as many loans as possible so they can resell and securitize them. However, investors are better off if mortgage lenders are more cautious about granting loans.
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Sources
The Balance uses only high-quality sources, including peer-reviewed studies, to support the facts found in our articles. Read our editorial process to learn more about how we verify facts and keep our content accurate, reliable, and trustworthy.
Small Business Administration in the United States. “Paycheck Protection Program.” Accessed August 17, 2021.
Govinfo. “Subprime Mortgage Market Disruption: Examining the Role of Securitization.” Accessed August 17, 2021.
Office of the Attorney General of Maryland. “Attorney General Frosh Announces $20 Million Settlement with Wells Fargo.” Accessed August 17, 2021.
Source: https://www.thebalancemoney.com/what-is-a-whole-loan-5197839
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