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Does having a preferred rate feature make the loan variable rate?
by Susan Paul, BOL Guru
BIO AND CONTACT INFO
Question: Does having a preferred rate feature make the loan variable rate?
Answer: Yes. A Preferred Rate Feature is a variable rate feature under Regulation Z. See section 226.18(f), which indicates that variable rate disclosures are required if the annual percentage rate may increase after consummation. If the Preferred Rate requirement (e.g., employment by the institution, minimum balance requirements, etc) cease after consummation,
the interest rate will increase. This means if the loan has an underlying fixed rate, but also includes a preferred rate feature, the fed box disclosures for variable rate must be completed.
The following are examples of how to complete the variable rate disclosure in the fed box (See also Reg Z section 226.18(f)(1)(i-iv):
Example 1: Preferred Rate with an underlying Variable Rate
The annual percentage rate may increase during the term of this transaction if I am no longer employed by you or the 90-day discount rate of the Federal Reserve Bank of Chicago increases. Under the Preferred Rate Feature, if I am no longer employed by you, the rate may increase once by 0.5%. Under the Variable Rate Feature, the rate may not increase more than once a month and
may not increase more than 1% each month. Any increase will take the form of an increase in the amount of each payment. If the rate increases by 1% in one month, the amount of each payment will increase to $xxx.xx. The rate will not go above 15%.
Example 2: Preferred Rate with an underlying Fixed Rate (variable rate
disclosures still required)
Interest rate of 8.0% (includes 0.5% preferred rate feature). If preferred rate feature terminated, the interest rate is 8.5%. The annual percentage rate may increase during the term of this transaction if I am no longer employed by you. This increase can happen only once during the term of the loan. The rate may not increase more than once n/a and may not increase more than n/a% each n/a. Any increase will take the form of an increase in the amount of each payment. If the rate increases by 0.5% in one month, the amount of each payment will increase to $xxx.xx. The rate will not go above 8.5%.
Example 3: Variable Rate (no preferred rate)
The annual percentage rate may increase during the term of this transaction if the 90-day discount rate of the Federal Reserve Bank of Chicago increases. The rate may not increase more than once a month and may not increase more than 1% each month. Any increase will take the form of an increase in the amount of each payment. If the rate increases by 1% in one month, the amount of each payment will increase to $xxx.xx. The rate will not go above 15%.
First published on BankersOnline.com 8/5/02
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