Carleton, Inc.
Consumer Lending Software

More on Truth in Lending APR Disclosures

It's pretty obvious that the subject of interest rates versus APR's just isn't going away. The topic arises daily in our customer service area with questions from clients and users of our software. The more we deal with it, the more we realize it is actually a multifaceted issue.

 The expectation of the Truth in Lending Act APR being the same value as the computational interest rate when no fees are included is simply a by-product of an earlier era when limited computer power led nearly every system to use a "360 day year".

The concept of "simple interest" transactions where interest accrues on a daily basis completely changes the landscape. The key point here is that the TILA APR is a computed value.

Think about it this way; Appendix J of Regulation Z contains 16 pages of definitions, variables, and algorithms to show lenders how to properly compute the APR. Why is that if the APR is merely a regurgitation of the interest rate?  Doesn't really make sense, does it? The APR is designed to "level the playing field" and compute a standardized rate of return regardless of how the lender accrues interest charges.

If your system APR calculation routine needs to know how you computed your payments, you’ve got a problem on your hands. You don’t’ need to know the interest rate; for that matter, you don’t even need an interest rate.  Many of the state regulated small loan alternative rate structure allow charging a stated handling charge per month of the contract.  The lender still has to compute and disclose an accurate APR.

But beside the fact that lenders often feel uneasy when the two rates are distinct, unwarranted by the way, there are other consequences influenced by this outdated and erroneous mind-set. 

Over time business practices are put into place based on the false premise that the interest and APR “are the same”. Two of the most glaring suspects are exporting the TILA APR into the core servicing system and routinely advertising and quoting "APR" on credit transactions when the value published/quoted is actually the interest rate.

If the TILA APR is accurately disclosed as 10.02%, pulling that rate into the servicing system will accrue interest at that rate rather than the interest rate of 10%.  Depending upon the specific contractual obligation in effect, the borrower may pay more interest over the life of the loan than originally agreed to.  If the lender is operating at a state regulatory maximum rate, that can also lead to potential usury concerns.

The advertising of rate, especially in the retail arena, can be quite competitive.  A practice established in the days when both interest and APR calculations were based on months and a nominal 10% disclosed as “APR”, can lead to potential violations when the accurately computed APR is 10.02%.

Posted on Oct 12, 2012