Why One Size Doesn't Fit All

Fighting the conception/perception that the credit industry is operated and regulated on a standardized basis and that parameters are of the “one size fits all” variety isn’t easy.

We constantly work with a variety of prospective clients in the credit industry to explain that choices on a wide variety of fronts and levels are available to lenders when it comes to compliance.

It’s a nice thought that we can just “simplify” things and still meet the specific business and regulatory requirements of our clients.

The reality is that compliance parameters don’t always contain clear cut universal mandates.

To illustrate this point, let’s review the perceived simplicity of credit insurance prima facie rates and state regulated maximum interest charges.

Prime Facie Credit Insurance Rates

It is an accurate description that published prima facie rates are insurance rates that may be used “without providing further justification”, but that doesn’t mean every lender provides credit insurance at those particular rates.

Deviations of prima facie rates based on the actual experience data provided to a state insurance department and their actuaries are often mandated by state insurance codes.

Simplistically put, if you brought in a lot of premium revenue over the last three years but paid virtually no claims, there’s a good chance the Insurance Department will adjust a lenders rates downward to meet previously determined standards in that regard.

Conversely, if your claims costs exceed the premium revenue for a stated period, the Department may allow an upward deviation from the prima facie rate as a form of recompense.

We have seen a lot of programs with a nationwide dealer base writing credit insurance in all 50 states make the decision to initially employ the prima facie rates for all their dealers with the goal of “facilitating” the roll out process.

While it’s true that as many as 80% of the dealers may use prima facie rates, the 20% that don’t sure create an administrative headache for the service provider when they are forced to retro-fit all the rates and underwriting limits for those dealers.

The timing is usually so that as the program is just gaining some steam and traction, resources have to be diverted from growth to the re-tooling process.

State Regulated Maximum Interest/Finance Charges

How much interest or finance charge a lender can produce on a credit contract is one of the most misunderstood regulatory disciplines in the industry.

Since most state maximum charge statutory provisions actually regulate the dollar charge generated by a published rate, Carleton’s compliance generator will evaluate the total dollar charge in a transaction against that computed according to statutory/regulatory rules.

However, in order to perform that task we first have to determine which specific provision a particular lender is operating within. Sounds simple enough, doesn’t it?

However, take the state of Texas for example. An institution making a consumer loan under the Texas Finance Code cannot produce an interest charge that will exceed:
A) The dollar charge produced by a split add-on rate structure with rates of 18% and 8%.
Or
B) The dollar charge produced by a melded simple interest structure with rates of 30%, 24%, and 18%, respectively.
Or
C) The dollar charge produced by the alternate simple interest rate tied to Treasury Bill auctions with a provision that contains a ceiling rate and a floor rate.

All of the above qualify as “maximum rate provisions” under the Finance Code.

All can produce significant and varied results when inserted as “THE” maximum charge standard to evaluate an actual loan against.

So, if an “out of the box” solution is presented, which set of rates to choose?

That is a truly key point: everywhere in the compliance process, the lender has choices available.

Don’t Forget the Lender

It is almost impossible to be in sync with a specific lending institution without a discussion that sheds some light on their philosophy and policies. Is their compliance philosophy conservative? aggressive? moderate?

In the end, it is what the institution views as the applicable maximum charge provision that is relevant.

We counsel our clients based on experience but the final call belongs to the lender. Trying to work outside that sphere of knowledge one can only harbor a guess at the “right” answer.

When it comes to compliance, I’d rather not guess.

The “one size fits all” approach does seem to mirror the current trend in our society for all actions to be “seamless” and “transparent”.

However, it is important to recognize when it comes to calculations and disclosures that the desired transparency is not necessarily a synonym for “easy and fast” but one that adheres to clear and accurate validation of where those values/numbers came from and the basis for their accuracy.