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Negative Finance Charge and Calculating APR

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Question: 
In talking with The Federal Reserve Board, it was determined that a negative finance charge is not a charge but a credit and should not be used in calculating the APR. We have found a blog on <a href="http://www.bankersonline.com/lending/guru2010/gurus_ldng102510a.html">BankersOnline website</a> that states differently. Where can we find the information to back up the answer that was given on this blog?
Answer: 

Very likely I provided a different answer because the other banker asked a different question. Since the details of this case, the exact question(s) asked, and the Fed's exact answer are not provided, I can only offer a general discussion.

Like red M&Ms, there's no such thing as a negative Finance Charge...or is there?

Neither the reg nor OSC comes right out and says "there's no such thing as a negative Finance Charge." The closest reference to a consumer payment of this kind is the OSC to Section 1026.18(b), #2:

Rebates and loan premiums. In a loan transaction, the creditor may offer a premium in the form of cash or merchandise to prospective borrowers. ... At the creditor's option, these amounts may be either reflected in the Truth in Lending disclosures or disregarded in the disclosures. If the creditor chooses to reflect them in the Section 1026.18 disclosures, rather than disregard them, they may be taken into account in any manner as part of those disclosures.

Hmmm...let's see...you can give the borrower a cash incentive and either count or ignore it. If you count it, you can do so "in any manner." Perhaps "any manner" includes subtracting the premium from the total Finance Charge? (...But that would cause a premium to behave like a "negative Finance Charge!") The reg doesn't say.

In spite of the Fed's wishy-washy commentary on this subject, Reg Z enthusiasts generally agree that there's no such thing as a negative Finance Charge. The tipping point in this argument comes when the lender provides a credit that exceeds the sum of all Prepaid Finance Charges and you would have to show a negative value in the "Itemization of Amount Financed."

So, if the credit isn't a "negative Finance Charge," what is it?

Section 1026.17(c)(1), a bedrock principle of Regulation Z, may point to the answer: The disclosures shall reflect the terms of the legal obligation between the parties.

What does your note and supporting contract material say about the credit? The clearest case would be to find that your loan contract calls for the credit to be applied as an offset to specific fees. In that case, you have the functional equivalent of a waiver of the fees. If the borrower is no longer obligated to pay the fees, then the fees AND the credit disappear from the TIL disclosure. This result may look like a "negative Finance Charge," but you get there by a compliant method.

If your documents are not clear enough to support that argument, you may wish to characterize the credit as an addition to the Amount Financed. Model Form H-3 (Itemization of Amount Financed) may help:

Itemization of the Amount Financed of $ _______
$ _______ Amount given to you directly
$ _______ Amount paid on your account
Amount paid to others on your behalf
$ _______ to [public officials] [credit bureau] [appraiser] [insurance company]
$ _______ to [name of another creditor]
$ _______ to (other)
$ _______ Prepaid finance charge

The fees clearly fall into the "Prepaid Finance Charge" category, and it's hard to dispute the fact that the credit is an "Amount given to you directly." By adding the credit into the Amount Financed, you arrive at the same mathematical destination as if you netted the credit against the fees. Once again, this result may look like a "negative Finance Charge," but I think you get there by a compliant method.

Ultimately, you are always free to throw in the towel and disregard the credit.

First published on BankersOnline.com 3/12/12

First published on 03/12/2012

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