Thought Leadership

Maximum Finance Charges... It's Not Just the Rate

The regulatory climate is about as uncertain and volatile as I have seen it in my 28 plus years at Carleton.  Of course, the big dog in the room is the CFPB administering the Dodd Frank Act provisions.  It is a task of such enormity that it's, obviously, being done piece-meal over a several year period and leaving most of us with a sense of impending, "I wonder what's next."

We have, also, seen a flurry of activity on the state level over the last several months.  Much of it actually impacting charges, disclosures, and calculations.  That is something we haven't seen much of over the last 10 years or so.

The crush of dealing with some new type of regulation is overwhelming at times as lenders face new requirements from varying directions.

Like many who serve the consumer credit industry, we have been counseling our clients to "get ready" and "be prepared" for what's coming by taking stock of your current compliance program.  That, of course, includes the often over-looked area of credit calculations and disclosures.

As we field more compliance related questions, I am always a bit surprised that the "Maximum APR" viewpoint is still so prevalent in the industry.

If it were only that easy!  The fact is, most consumer lending statutes regulate the dollar of the charge, whether it's referred to as interest, finance charge, or time-price differential.  The dollar charge is created by the application of the published maximum rate to the outstanding balances of the transaction.

It's important to note that a TILA APR computed by the actuarial method is going to use the charge accrual calendar prescribed by Appendix J to Regulation Z often referred to as the "Federal Calendar" (Fed Cal).  

The calendar prescribed by a specific state statutory provision more than likely does not use the Fed Cal for determining the maximum charge.  A few states do use the definition of  "actuarial method" in describing how state charges are to be computed.  However, in most cases they do not always comprehend the detail level specification that the actuarial method contains inherent compounding of interest.

So, if the state prescribed calendar for maximum charge in the statute differs from the one used to compute the TILA APR, the APR is not an accurate barometer of compliance with a state statutory provision on the maximum charge allowed.

Also, the TILA APR is generally a two or three place value, it has to fit in the Fedbox allotted space, which means it is a rounded value.  Quite often the TILA APR, rounded for the purpose of display, can provide a false sense of security or produce a premature overcharge warning for a specific set of loan data.  

It is possible for a disclosed 21% TILA APR to produce a state sanctioned finance charge that exceeds the prescribed 21% published statutory maximum rate and thus represent a violation.  It's all in the details.