A rare fintech opportunity for an underserved market

By Hussein Ahmed on Thursday 14 March 2019

Editor's PickOpinionDigital Banking

Hussein Ahmed, founder and CEO of US challenger bank Oxygen says the gig economy presents innovation opportunities across financial services.

According to Arun Sundararajan, Professor at New York University’s Stern School of Business, “The era in which the majority of the workforce provides labor and talent in exchange for a predictable salary is passing.”  

Sundararajan may be onto something.  A recent Gallup survey found that more than a third of Americans (36 percent) engage in some type of freelance work. The independent contracting, or “gig” economy trend is like a runaway train showing no signs of slowing down. And it is forcing long-established norms – government benefits, health benefits, financial services and more – to change.

Traditional lending processes in particular must accommodate a major challenge when it comes to independent contractors – inconsistent income streams, which increases their risk profile. Financial services firms of all stripes – from established banks to fintech start-ups – have numerous avenues to get ahead of the curve and address this market need in several key areas.

Risk analysis in the lending process 

De-risking independent contractors is going to require a holistic understanding of an individual’s financial life. Today’s risk analysis processes were designed primarily for people with traditional, 9-to-5, fixed salary jobs. Independent contractors’ income frequencies may be less regular than the standard two-week pay period, but year over year their inflows and outflows may be relatively consistent and it is unfair for these individuals to be penalized simply due to the nature of their work.

Forward-looking banks are applying artificial intelligence (AI) to analyze customer spending patterns, deliver greater personalization and reduce customers’ financial anxieties.  The same AI techniques can be applied to freelancers’ banking transactions, helping derive a more comprehensive understanding of inflows and outflows in order to assess risk.

Going a step further, lenders can then tailor products to address individual, personalized needs – matching loan amount levels and payback timing schedules to an independent contractor’s unique financial income patterns. This is a prime area for established banks and fintechs to collaborate – for example, banks providing the data and analysis infrastructure and fintechs providing the customer-facing layer.

Credit scoring: Giving independent contractors fair access to credit is going to require fundamental changes to traditional credit scoring models, which can penalize individuals for a single late payment. According to a just-released PayPal report, only 28 percent of independent contractors make a steady income each month. Not surprisingly, 51 percent of these workers have paid a bill late and incurred fees over the last year, as opposed to only 38 percent in other types of employment - likely the result of income inconsistency.

While the established credit bureaus continue to serve as important gauges, independent contractors can benefit from additional assessments. Combining personalized financial products specifically tailored to independent contractors (for instance, a loan that is paid back in installments that match the income variability), with an assessment of the contractor’s demonstrated history with such products, can yield a more reliable assessment of credit worthiness.

This can help compensate for a previous late payment or two, which may unfairly lump a freelancer into the “bad borrower” category. Supplemental credit assessments will be critical to offsetting the freelancer bias that often presents in traditional credit scoring.  

Empowering entrepreneurs: Small businesses continue to be the United States’ primary economic engine and job creator. According to recent statistics, small businesses employ almost half of the nation’s total employee workforce.

Many small businesses are started by single, 1099 workers. Unfortunately, when these individuals apply for loans to grow their businesses, they are often faced with significant obstacles that the traditional W2 worker does not have to contend with.

I discovered this myself when I was working as a freelancer. I was making more than $150,000 a year and had a credit score in the high 700s.  Yet when I applied for a loan on a popular lending platform, I was pointed to a daunting set of requirements including two years of tax returns, bank statements and more. I was viewed as a risky investment, simply because I did not have a full-time job.

Today there are a variety of online lending platforms available to help established small businesses and W2 individuals. There is a clear void when it comes to fair, easily accessible financial services for 1099 workers.  The lending ecosystem is simply not set up in their favor.

The range of opportunities for servicing the financial needs of the growing base of independent contractors is huge. But what is equally big is the range of dangers and threats to both individuals and the entire U.S. economy, if these needs go unmet. Independent contractors will continue to be treated as second-class citizens, swelling the ranks of the ‘underbanked.’  Lenders risk coming under scrutiny for letting bias creep into the lending process, making them vulnerable to compliance breaks and accusations of discriminatory lending.

Independent contractors have always played a significant role in our economy.  As their numbers increase, changes will be needed across the entire business and regulatory landscape, geared towards improving the health and well-being of these individuals and their families.  Through widespread innovation, financial services firms can address the critical component of financial health.

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