Under the Truth in Lending Act (Regulation Z), the finance charge is "the cost of consumer credit as a dollar amount. It includes any charge payable directly or indirectly by the consumer and imposed directly or indirectly by the creditor as an incident to or a condition of the extension of credit. It does not include any charge of a type payable in a comparable cash transaction."
Under the United States Truth in Lending Act, the finance charge is the cost of consumer credit expressed in dollars, combining the interest along with certain required charges such as some origination fees or other prepaid finance charges. It is closely related to the annual percentage rate (APR): the APR expresses cost as a yearly percentage, while the finance charge expresses the same cost as a total dollar figure over the life of the loan. Lenders are required to disclose the finance charge to you before you commit. The finance charge does not include the principal being repaid, since that is the amount borrowed rather than the cost of borrowing it.
On a closed-end loan disclosure, the finance charge sits alongside the amount financed and the total of payments. The relationship among them is arithmetic: the amount financed plus the finance charge equals the total of payments, when every payment is made on schedule.
Some costs are excluded from the finance charge by rule, such as late charges and charges that would also apply in a comparable cash transaction. Those can still add to what a borrower pays, which is why they are listed separately in the agreement and why reading the whole fee section matters as much as the headline numbers.
Regulation Z lists the kinds of charges that belong in the finance charge, such as interest, service charges and certain required insurance premiums, and the kinds that do not, such as late charges. That line matters because the finance charge is also the basis for the yearly rate on the disclosure, so a charge counted outside it shows up in neither figure.
An example
A borrower's disclosure shows the amount financed, the finance charge and the total of payments, and adding the first two gives the third. On this loan interest accrues on the remaining balance, and the agreement has no prepayment penalty. When the borrower pays the loan off early, the interest for the rest of the schedule never accrues, so the borrower pays less than the disclosed finance charge.
Common misconceptions
Myth: The finance charge includes the money you borrowed.
In fact: It is only the cost of credit. The amount you borrowed is separate and appears as the amount financed.
Myth: The disclosed finance charge is always exactly what you end up paying.
In fact: It assumes payments are made as scheduled. Paying early on a simple-interest loan can reduce it, and late charges, which are excluded, can add to what you pay.
Myth: A loan with no fees has no finance charge.
In fact: Interest is part of the finance charge too, so any loan that charges interest has one.
What to check
- The finance charge in dollars and the amount financed.
- The total of payments, and whether it matches the two added together.
- Which charges are listed outside the finance charge.
- Whether paying early reduces the interest portion.
How this applies at Desert Rock Capital
At Desert Rock Capital, your actual amount and terms are disclosed in the loan agreement before you sign anything, including each biweekly payment and the total cost. Interest accrues on every dollar you borrow, and there is no prepayment penalty, so paying early means you only pay interest for the time you had the loan.
Based on our loan requirements, loan amounts and application pages. Your actual terms are in the loan agreement.