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Risk-Based Pricing

Definition - What does Risk-Based Pricing mean?

Risk-based pricing is when lenders determine loan terms and interest rates based on a borrower's potential risk. Borrowers who have good credit scores are perceived to be less of a risk and thus are often offered lower interest rates. Borrowers with bad credit scores or who have other indications of financial problems such as having a recent bankruptcy filing are often given higher interest rates. Risk-based pricing has been criticized as being discriminatory and unfair because it is determined on a case-by-case basis. It may also contribute to predatory lending practices.

Justipedia explains Risk-Based Pricing

Lenders such as banks have to evaluate the potential risk of default when they are giving loans to people. If a borrower defaults on a loan, then it can cause the lender a significant problem. Not only can the bank lose money, but it can be forced to spend significant amounts of time undergoing the foreclosure process. So, banks base the price of the loan on the risk that the individual borrower provides.

According to the Equal Credit Opportunity Act, lenders may not discriminate against a loan applicant based on certain factors, including race, religion, sex, marital status and age. Loan applicants who feel that they've faced illegal discrimination when applying for a loan may file a complaint with the U.S. Federal Trade Commission.

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