Thus, if the smaller company lends a prospective auto purchaser $3,000 to buy his car, it secures from the purchaser a signed conditional sales contract for $3,000. The buyer agrees to pay the finance company $3,000 plus interest over, say, three years. The finance company then sends to the refinance company this sales contract and is lent by that company perhaps $2,700, a part of the money the smaller company advanced for the purchase.
The refinance company makes a substantial charge to the smaller finance company for this money and keeps the conditional sales contract as security or collateral. If the smaller company falls down on its interest payments to the larger company, the latter company can collect directly from the car purchaser. It thus protects itself by making this type loan, which is known as a collateral loan, the conditional sales contract on the car being the collateral.
Even if a finance company in your city does not offer for sale thrift notes or short term notes it is possible for you as an individual to lend on a short-term basis to such a company by approaching it directly. The other day I was talking on the phone to a firm in Richmond, Va., LeWood Homes, manufacturers of pre-cut or factory built homes. These homes the company erects on land owned by the purchaser. Generally LeWood erects only the shell and the purchaser puts in electricity and plumbing and the interior walls.
This construction company has its own finance company and the latter sells its conditional sales contracts to larger finance companies. I asked whether the finance company would be interested in selling these contracts direct to private investors, and the reply was that it would. The investor would thus hold the conditional sales contract on the home and have the guarantee of the finance company plus the guarantee of the construction company. This is a form of lending to a finance company with guarantees and collateral.
Any finance company in which you invest should be checked out carefully to make sure it is sound. It should certainly have been in business for three and better still, five years, and its portfolio should be at least $250,000 and its net worth over $100,000, although these are certainly arbitrary figures. The personnel of the company should be checked out thoroughly at the banks from which the company borrows, and a Dun and Bradstreet report should be secured.
Major cities are filled with little, unethical finance companies, and in a city like New York a finance company would have to be triple checked before investing one dollar.
It is possible to make a loan to a finance company at quite substantial rates 8 percent, 10 percent or even 12 percent. For years I have had funds invested in the demand note of a finance company at 12 percent per annum, interest paid monthly. So has my aunt, my wife's aunt and two of my closest friends. I would not permit such investments, much less make them myself, if there were not a reasonable degree of safety.