2013 has begun with a deluge of
questions, issues, and investigative queries from a diverse cross-section of
lenders in the consumer finance industry about the specifics of proper APR
computations.
The "devil" is in the
details and the recent plethora of issues presented had indeed
"drilled-down" to the very unique and peculiar properties of Appendix
J to Regulation Z and the accompanying definitions of terms and concepts.
Remember that Appendix J was created
to serve as the "how to" for APR calculation to fill a void left by
the original Regulation Z that described the concept of the APR but left too
much regarding the detail level nuts and bolts issues open to interpretation.
It was also formulated during the
late 1970's when the vast majority of calculations were fairly generic and
repayment was primarily monthly in nature. Those factors definitely influenced
the viewpoint of the Consumer Affairs Committee in creating Appendix J.
Some random thoughts concerning the
issues currently creating a buzz in the consumer finance industry:
· The APR isn't the interest rate. We've discussed this in
previous blogs and it continues to be a prevalent issue. Keep in mind that
nowhere in Appendix J or Reg. Z does it state that "if no fees are
present, the APR will be considered accurate if it is the same value as the
interest rate".
· If that is the case and accuracy is achieved by a simple
eyeball test, why does Appendix J contain 16 pages of detailed definitions,
variables, and algorithms? Since the majority of consumer lending transactions
don't contain prepaid finance charge fees, what's the point?
· February really does throw a wrench into any logical view of
how time periods should be measured. The edict to use the last day of February
when payments are scheduled for the 29th or 30th of a month creates some
interesting scenarios. If the contract date is January 29th and the first
payment date is March 30th, how many whole unit periods does that produce by
the Federal Calendar?
· The trend to tie repayment to the borrower's payroll cycle
is causing a tremendous amount of "gnashing of teeth" in trying to
make sense out of two payments scheduled per month within the context of a 365
day year, months that have 31 days, and a "most commonly occurring"
time interval between events.
· Back to point No. 1 : If daily interest accrual (aka simple
interest) produces a total interest charge of $55.08 for a twelve month loan
without fees, and monthly interest accrual (aka unit period) produces a total
interest charge of $54.92 for the same twelve month loan with no fees ,
shouldn't the APR be higher for daily accrual (10.02%) than for monthly accrual
(10%)? Seems to me like Truth in Lending working as intended: larger finance
charge, larger APR.
· Servicing systems that employ the practice of pulling the
contract APR (Truth in Lending APR) into the core system to process payments
should perform an evaluation of the parameters at the detail level. Those
processes were probably put into place years ago when interest was computed
monthly and was more closely associated with the APR calculation itself. Simple
interest properties have changed that landscape enormously.
· The original intent of the Truth in Lending Act APR was to
serve as a basis for consumers to compare the cost of competing financing
transactions. The APR was not meant, nor designed, to measure the loan's
profitability for the lender. The mathematics behind the calculation bear out
that the APR is a great visual graphic but a poor indicator of individual loan
profit. It is unfortunate that it gets used in that context so often when
discussing regulation of the consumer finance industry.
