Last week, crowd-funding startup UpStart.com announced it would begin offering more traditional loans, in addition to its current model of connecting recent college graduates with investors (who they call “backers”).The college grads then pay back the loans based on a percentage of their income for either 5 or 10 years.

The new “traditional” loan could be a great way for young borrowers to leverage their education to consolidate debts, seek lower rates or start up a new venture. UpStart’s “traditional” loans are 3-year fixed-rate loans for up to $25,000 at rates starting below 7% APR. The application process can be as short as a week, and there are no fees for early repayment, according to the announcement.

Using education as a credit-risk indicator

In announcing the program, UpStart’s CEO Dave Girouard, praised banks that have offered online loan application and approval processes, but claimed that such banking innovation hasn’t served people with shorter credit and work histories. “In fact, the leading lender requires borrowers to have at least 3 years of credit history. And just 2% of all loans are made to individuals with less than 6 years of credit,” said Girouard.

Rather than merely focusing on the length of ones credit history, UpStart will take into consideration the risk profiles related to the educational background of recent college graduates, he said.

Quote:

Lenders rely on credit reports and employment history to estimate the likelihood that a borrower will default on a loan. With little or no history to measure, young people are systematically judged as high risk. Of course, all young people aren’t risky borrowers – in fact, this study released by the Federal Reserve in November concludes that borrowers in their 20s are among the least likely to default. Unfortunately, traditional underwriting techniques fail to distinguish between high and low risk individuals…Upstart’s underwriting model complements credit information with education-related data that helps us understand the borrower’s economic ability to repay a loan, as well as their propensity to repay. Our model estimates an individual’s employability and earning potential by considering where they went to college, their area of study, academic performance, and income earned to date. By simulating thousands of scenarios and outcomes for each borrower in just a few seconds, it can estimate the likelihood of default and price the loan appropriately.