INTEREST RATES are frequently advertised without stating the method of the interest calculation.
This can be misleading when "add-on" rates are quoted. Consumers may be led to think that they are getting a deal and end up paying a higher rate than they would otherwise have accepted.
High interest rates may lead to loan repayment problems and eventually cause the secured lender to exercise the option to call the security to recover amounts due including interest arrears.
The borrower has an obligation to repay the loan, hence, it is critical for the borrower to seek the best loan terms. However, many consumers may be paying more for interest than they think, under the mistaken belief that they are paying a good (low) rate of interest.
In this regard, consumers can protect themselves by being aware of unethical lending practices and understanding how interest is calculated using the different methods.
The difference between interest calculated on an "add-on" basis as opposed to interest calculated using an annual percentage rate can be significant, as indicated in the example Table i and Table ii:
The effect of borrowing with interest at "13 per cent add-on" is to incur an additional $284,815.56 in interest charges, when compared to investing at 13 per cent with interest calculated at the annual percentage rate (APR). "Add-on" rates can be deceptive, if not properly understood. In fact, when paying "add-on" rates of 13 per cent for 5 years, you are effectively paying an annual percentage rate of a whopping 21.79 per cent.
The "add on" rate, which is equivalent to 13 per cent APR for 5 years, is 7.3 per cent. Borrowers are advised to request that interest rate be quoted using annual percentage rates. These rates can be quoted for commercial loans, hire purchase, lease, credit card loans, mortgages, car loans among other things.
HOME MORTGAGES
One of the most significant borrowing transactions any individual is likely to enter into is borrowing to purchase a home. These transactions have become more flexible in recent years. Historically, a person who was attempting to purchase a house had very few options.
Often, a traditional thirty-year loan was the only available option. Today, loans of various duration and interest rates are available to every home buyer.
In order to protect consumers in the United States, the Federal Government have enacted legislation known as the Truth in Lending Act and the Consumer Leasing Act.
TRUTH IN LENDING ACT
The Truth in Lending Act requires creditors to give you certain basic information about the cost of buying on credit or taking out a loan.
Credit costs vary but by comparing the finance charges and the annual percentage rates you can shop for the best credit deal. The following information must be disclosed in writing and must be stated in plain language:
Amount financed
Total number of payments and their amounts
A description of any security held by the creditor
Annual percentage rate (APR) expressed as a percentage which reflects all costs of the loan
Finance charge stated as a dollar amount
Other loan terms and conditions such as date on which payment is due, late payment and prepayment penalties
In addition, the Truth in Lending Act:
Regulates advertising of credit terms
Prohibits credit card issuers from sending unrequested cards
Limits a cardholder's liability to US $50.00 for unauthorised use of their card
Requires a written itemisation of the amount borrowed and all charges not included as a part of the finance charge.
CONSUMER LEASING ACT
The Consumer Leasing Act requires the disclosure of important lease terms and costs so that you can compare one lease with another or compare the cost of buying with cash with buying on credit. This law applies to personal property leased by a consumer for more than four (4) months and covers cars, furniture, appliances and other personal property.
CONCLUSION
There is no equivalent legislation to the Truth in Lending Act or the Consumer Leasing Act in Jamaica. We recommend legislation to compel creditors to state the cost of borrowing in writing and to use clear language. Lenders should be required to quote interest rates in terms of Annual Percentage Rates so that consumers can compare costs fairly and shop for the best credit deal.
Institute of Chartered Accountants of Jamaica (ICAJ) Current Affairs Feature
TABLE i
LOAN OF $1 MILLION CALCULATED
@ 13% ADD-ON FOR 5 YEARS
YEARS INTEREST
1 130,000.00
2 130,000.00
3 130,000.00
4 130,000.00
5 130,000.00
650,000.00
TABLE ii
LOAN OF $1 MILLION CALCULATED
@ 13% APR FOR 5 YEARS
YEARS INTEREST
1 121,161.98
2 100,198.35
3 76,340.99
4 49,190.59
5 18,292.53
365,184.44
