Daily Loan Interest Calculation Standardisation
33-41 LOW ER MOUNT STREE T
DUBLIN 2
Standard for Daily Loan Interest
Calculation
Requirements Specification
Issued:
May 2007
Updated:
February 2008
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Contents
CONTENTS ..................................................................................................... 2
INTRODUCTION ............................................................................................... 3
DAILY LOAN INTEREST CALCULATION .............................................................. 4
PROCESSING REQUIREMENTS .......................................................................... 5
FURTHER INFORMATION ................................................................................ 11
APPENDIX 1 - WEEKLY VS DAILY INTEREST CALCULATION ............................... 12
APPENDIX 2 – DAILY LOAN INTEREST CALCULATION - WORKED EXAMPLE ........ 13
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Daily Loan Interest Calculation Standardisation
Introduction
Currently there is no standardisation across the credit union movement in
respect of loan interest calculations. Historically, going back to the days of
manual interest calculations by staff and volunteers, a simple weekly interest
calculation was adopted for loans.
Despite significant improvements in systems and technology over the past two
decades, weekly loan interest calculations are still used in many credit unions
today. This weekly loan interest calculation basis does not conform to financial
industry norms and is less desirable from a consumer point of view. Current
best practice in lending suggests that loan interest is calculated on a daily basis
which is generally considered to be the fairest calculation method.
This specification provides IT supplier personnel with the information and
business rules necessary to develop and implement standard daily loan
interest calculations.
The Irish League of Credit Unions proposed a motion to BDM 2007 to require
all credit unions to adopt and implement these new standards by 1/10/2007 and
bring credit unions more in line with industry norm interest calculations today.
This motion was passed overwhelmingly by the movement.
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Daily Loan Interest Calculation Standardisation
Daily Loan Interest Calculation
How it works?
The proposed standard suggests that interest due, or more correctly
called interest accrued, is calculated and accumulated on a daily basis in
accordance with the following formula:-
[Int. Accr’d=(Current Loan Bal. x No. Days x Int. Rate)/(No. Int. Days in Yr x 100)]
The resulting interest accrued is rounded in accordance with normal
rounding rules ie if the decimal part is greater than or equal to 0.xx5
round up to the nearest cent/pence otherwise round down.
By
performing the full calculation in a single formula calculation and
rounding at the end this minimises rounding errors eg. with an interest
rate of 10% and a loan balance =£/€981.10.
4 days interest =(981.10 x 4 x 10.0)/(365 x 100)= 1.07517808219.
This is rounded up to €1.08 / £1.08.
Note:- It is not proposed that loan interest calculated is capitalised
ie interest is not charged on unpaid interest due.
Where interest accrued remains unpaid following a transaction on a
members account, this unpaid interest is added to the members Interest
Arrears balance. Total interest due for a member is calculated as
follows: [ Total Interest Due = Interest Accrued + Interest Arrears ]
Note: The remainder of this report refers only to the calculation of
Interest Accrued, however Total Interest Due is obtained from the
above formula.
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Daily Loan Interest Calculation Standardisation
Processing Requirements
Interest due is calculated and updated to the members account on a daily
basis. The interest period for the purpose of the loan amortization and cost of
credit calculation is the loan repayment period ie weekly, monthly etc.
Disregard previous interest rate tables and calculators issued or made available
utilising alternative calculations/formulae. If you are unsure as to the validity of
previous documentation received or are unclear as to League
recommendations in regard to already available interest calculation tools please
contact the League for clarity.
Req 1.0 Daily Interest Loan Calculation
The system must calculate Interest on a daily basis using the
following formula:
[Int. Accr’d=(Current Loan Bal. x No. Days x Int. Rate)/(No. Int. Days in Yr x 100)]
Req 1.1 Interest Loan Calculation Rounding
The system must perform rounding on the interest calculation as
follows: If the interest calculation is greater than or equal to 0.xx5,
then round up the nearest cent/pence. If the interest calculation is
less than 0.xx5, then the value must be rounded down the nearest
cent/pence.
Req 1.2 APR Calculation
The (Actual/Actual) Day Count must be used at all times in APR
calculations. The value for Actual is 365 for a normal year and 366
for a leap year
Req 1.2.1 Leap Year APR Calculation
In a leap year, the system must calculate interest using the formula
(Actual/Actual). The “Actual” day count for a leap year is 366.
Where there is a crossover interest calculation period from a leap
year to a normal year or from a normal year to a leap year, the
interest calculation must done for the old and new years
separately. The two un-rounded interest due amounts must then be
added together and rounded after the addition using normal
rounding rules.
Req 1.3 Interest Rate Change
When the loan interest rate changes within an interest calculation
period, the system must complete the interest calculation for that
period at the old and new interest rates separately. The two unrounded interest due amounts for the different interest rate periods
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must then be added together and rounded using normal rounding
rules at the end.
Req 1.4 Loan Interest is Not Capitalised
The system must not capitalise loan interest at any time over the
term of a credit union loan ie interest is not charged on unpaid
interest due.
Where interest accrued remains unpaid following a transaction or incident on a
members account, this unpaid interest is added to the members Interest
Arrears balance.
Req 1.5 Total Interest Due Calculation
The system must calculate the Total Interest Due by a member as
follows: [ Total Interest Due = Interest Accrued + Interest Arrears ]
Loan Interest Rebate
Many credit unions refund a portion of loan interest collected from borrowing
members annually. This processing takes place at the same time as the
dividend posting following financial year end. The rate of loan interest rebate
must be ratified by the members at credit union AGM. A percentage of loan
interest paid by the member is paid in the form of an interest rebate if
applicable.
Req 2.0 Accumulated Loan Interest Paid by Members
The system must accumulate the loan interest paid by each
member separately for the credit union financial year ending 30th
September and the tax year 31st December. The system must use
the loan interest paid in the credit union financial year as the basis
for the calculation of the loan interest rebate for the last year ended
Req 2.1 The system must calculate the Interest Rebate Calculation
using the following formulae
[Loan Int. Rebate = (Total Loan Interest Paid in Fin. Yr) x Rebate % ]
Eg. Total loan interest paid in the last financial year is €352.22 with 20%
interest rebate payable. The interest rebate calculated is €70.44. Normal
rounding rules apply here also
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Req 2.2 Borrowing Members
If the credit union pays an interest rebate to members, then all
members loans where interest was paid during the last financial
year will qualify for a rebate including members with loans that
were fully repaid during the last financial year but who also paid
loan interest during that financial year
Req 2.3 Recording Loan Interest and Loan Interest Rebate
Commencing from 1st October 2007, credit union systems must
calculate and store the total loan interest paid for each loan
account for each financial year (commencing 1st October) and
separately for each tax year (commencing 1st January). Loan
interest rebates paid to members for each loan account within each
tax year must also be recorded.
Req 2.4 Certificates of Interest Paid
The loan interest amount shown on Certificates of Interest for
qualifying loans must be calculated by the system using the total
loan interest paid within the appropriate tax year less any loan
interest rebate refunded to the member within the same tax year in
respect of that loan.
Clearing of Funds
Systems and processing must be in place to manage uncleared as well as
cleared funds in accordance with each individual credit union policy.
Consider the situation where a member cheque is received as a loan
repayment and subsequently posted against the members loan account. The
funds associated with cheque received by the credit union may not be cleared
by the banking system for up to 5 days. During the cheque clearing period the
credit union may not be earning deposit interest from their bank in respect of
these funds. The credit union may or may not want to effect the lodgement/loan
repayment to the members loan balance until the funds have been cleared by
the banking system. Immediate posting of uncleared funds at the credit union
will result in a loss or reduction of interest income for the bank clearing period.
Heretofore from a loan interest calculation point of view, most credit unions did
not distinguish between cleared and uncleared funds as interest calculations
were typically done on a weekly basis. This calculation frequency allowed
sufficient time for cheques and other funds to be cleared.
With daily loan interest calculations, credit unions must decide whether or not
they are willing to pass the cost of the potential loss of credit union deposit
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interest income and loan interest income on uncleared balances to the
members lodging these uncleared funds.
It is recognised that some credit unions will process cleared and uncleared
funds in the same manner though others may not. If the policy of a credit union
is to treat uncleared funds differently to cleared funds then the credit union IT
processing system must be capable of managing uncleared funds in
accordance with policy.
Req 3.0 Cleared and Uncleared Funds Tracking
IT processing systems must be enabled to identify, track and
manage cleared and uncleared fund transactions.
Credit unions typically offer a standing order loan repayment or lodgement
option to their members in respect of lodgement of funds. In this case funds are
transferred electronically from the members bank account to the credit unions
bank account. Credit unions receive notice of these lodgements(cleared funds)
through their Internet Business Banking package supplied by their bank or
through bank statements received.
Req 3.1 Standing Orders and Exceptions Posting
The system must post, cleared funds lodged in respect of member
payments to credit union bank accounts, to the destination member
accounts no later than next day following value received by the
credit union to their bank. Queries in respect of unapplied credits
must be reported on and followed up the same day the query
arises.
Req 3.2 Funds Clearing Periods
The credit union IT system must record the number of days
required to clear funds in respect of the transaction types to be
processed. These “number of days” values will be used by the IT
system in automatically clearing member funds. Once the clearing
period for funds has elapsed, un-cleared funds will be processed
as cleared funds
Req 3.3 Same Treatment for Cleared and Uncleard Funds
If credit union policy suggests that there is no special treatment for
transactions containing un-cleared funds, then the system must
process such transactions as if the funds were cleared funds
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Req 3.4 No Funds Value for Clearing Period
If credit union policy suggests that members will not receive value
for their funds lodged for the clearing period, then the system must
post uncleared funds transactions to effected member account
balances next day following the completion of the specified
clearing period for that transaction type. This applies to funds
received by cheque and electronically
Bounced Cheque and Unpaid Direct Debit Treatment
Systems must be capable of efficiently processing the cancellation of bounced
cheques or unpaid direct debit lodgements in accordance with credit union
policy. Systems must provide for controlled and automated processing of loan
interest due adjustments where applicable in respect of lodgements of
uncleared funds.
Req 3.5 Reversal of Bounced Cheques and Treatment of Unpaids
If credit union policy suggests that funds value will be not be given
to members for the clearing period in respect of bounced cheques
or unpaid direct debits, the IT processing system must
automatically re-adjust the loan/deposit interest value in respect of
necessary transaction reversals as a result of such bounced
cheques or electronic unpaid direct debits. Interest adjustment
values must be calculated in accordance with this standard as
follows: [Int. Adj.={(Cur Loan Bal+Cancel’d Prin Amt) x No. Days x Int. Rate}/(No. Int.
Days in Yr x 100)]
[ Corrected Int. Arrs= (Existing Int. Arrears + Int. Adj.) ]
A worked example is shown in Appendix 2. In this example a loan and interest
repayment is made on 5/10/06 by cheque. This transaction was immediately
effected against the members loan balance. Subsequently the cheque
bounced and a transaction reversal was effected on 10/10/06. This reversal
had the effect of increasing the loan balance to£/€1,000, an increase of
£/€18.90 to be applied retrospectively back to 5/10/06. Assuming a loan
interest rate of 10% the additional loan interest due as a result of this reversal
for the 5 day period is
Interest Adjustment= {(981.10+18.90)*5*10}/(365*100)=1.36986301369.
This value is rounded using normal rounding to £/€1.37.
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Corrected Total Interest Arrears is calculated by adding the interest adjustment
amount to the existing interest arrears amount ie 1.37+1.10= £/€2.47.
General Auditing Requirements
Req 3.6 Auditing of Adjustments
The system must be controlled and fully traceable through
electronic and paper audit trails for all transaction cancellations
and adjustments including loan interest due adjustments.
Req 3.7 Loan Interest Rates Recording
The credit union IT system must be available to readily provide the
loan interest rate charged on any loan currently or historically to
authorised credit union personnel and audit staff without the need
for making special arrangements with IT providers.
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Further Information
Should you have any queries or require further information in relation to
implementing the new standard interest calculation basis contact the League
Name:
Joe Timmons
Email:
jtimmons@creditunion.ie
Telephone:
+353 1 6146968
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Appendix 1 - Weekly vs Daily Interest Calculation
Assumptions: Weeks commence on Mondays. Loan issued for 1000 on 1/10/06 with
weekly repayment of 20 (inclusive of interest). Loan interest rate of 10% applies.
1. Weekly Interest Calculation
Interest Rate 10% (Apr 10.5%)
Weekly Rate Factor = 0.00191650
Days
Opening
Wk
Transaction Interest Loan
No.
Date
Due
Bal.
1 02/10/2006
7 1000.00
1 05/10/2006
0 1000.00
2 09/10/2006
7
981.91
2 12/10/2006
0
981.91
3 16/10/2006
7
963.79
4 23/10/2006
7
963.79
4 29/10/2006
0
963.79
Opening
Interest
0
1.91
0.00
1.88
0.00
1.84
3.68
Total
Repay
Amt
0
20
0
20
0
0
0
Principal
Repay
Amt
0
18.09
0
18.12
0
0
0
Closing
LoanBal.
1000.00
981.91
981.91
963.79
963.79
963.79
963.79
Closing
Interest
1.91
0
1.88
0
1.84
3.68
3.68
Total (Level) Payments Made to 29/10/2006
=
40.00
Total Interest Charged to 23/10/2006
=
7.47
Total Interest Charged to 29/10/2006
=
7.47
Total Principal Repaid to 29/10/2006
=
36.21
Transaction
Description
Interest due wk1
Repayment made wk1
Interest due wk2
Repayment made wk2
Interest due wk3
Interest due wk4
Balances at end wk4
Compare the same example as shown above with daily loan interest calculation
2. Daily Interest Calculation
(Standard Daily Basis)
Interest Rate 10% (Apr 10.5%)
I=(Rate/365x100)x Loan xDays
Days
Wk Transaction Interest
No. Date
Due
1 02/10/2006 1 day
1 05/10/2006 4 days
2 09/10/2006 4 days
2 12/10/2006 7 days
3 16/10/2006 4 days
4 23/10/2006 11 days
4 29/10/2006 17 days
Opening
Loan
Bal.
1000.00
1000.00
981.10
981.10
962.98
962.98
962.98
Opening
Interest
0
1.10
1.08
1.88
1.06
2.90
4.49
Total
Repay
Amount
0
20
0
20
0
0
0
Principal
Repay
Amount
0
18.90
0
18.12
0
0
0
Closing
LoanBal
1000.00
981.10
981.10
962.98
962.98
962.98
962.98
Closing
Interest
0.27
0
1.08
0
1.06
2.90
4.49
Total (Level) Payments Made to 29/10/2006
=
40.00
Total Interest Charged to 23/10/2006
=
5.88
Total Interest Charged to 29/10/2006
=
7.47
Total Principal Repaid to 29/10/2006
=
37.02
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Transaction
Description
Interest due for 1 day
Repayment made wk1
Interest due for 4days
Repay wk 2
Interest due for 4days
11 days interest due
Balances at end wk4
Daily Loan Interest Calculation Standardisation
Appendix 2 – Daily Loan Interest Calculation - Worked Example
Date
(Oct Loan
2006) Balance
1
0.00
2 1,000.00
3 1,000.00
4 1,000.00
5 1,000.00
6
981.10
7
981.10
8
981.10
9
981.10
10
981.10
11 1,000.00
12 1,000.00
13
981.88
14
981.88
15
981.88
16
981.88
17
981.88
18
981.88
19
981.88
20
981.88
21
963.88
22
963.88
23
963.88
24 1,963.88
25 1,963.88
26 1,963.88
27 1,963.88
28 1,963.88
29 1,963.88
Interest
No. of calculatio
Days n today
Interes (including
t Due interest
Today arrears)
0
1
0.27
2
0.55
3
0.82
4
1.10
1
0.27
2
0.54
3
0.81
4
1.08
5
1.34
1
2.74
2
3.02
1
2.09
2
2.36
3
2.63
4
2.90
5
3.17
6
3.43
7
3.70
8
3.97
1
2.23
2
2.50
3
2.76
1
3.30
2
3.84
3
4.37
1
4.85
2
5.34
3
5.82
Interest
calculation
yesterday
(including
interest
arrears)
0.00
0.27
0.55
0.82
1.10
0.27
0.54
0.81
1.08
2.47
2.74
3.02
2.09
2.36
2.63
2.90
3.17
3.43
3.70
3.97
2.23
2.50
2.76
3.30
3.84
4.37
4.85
5.34
Interest
Interest
Arrears
due for
(Included
today (1
in Int
days
Interest
Calc.
interest Paymen Principa Today
Loan
only)
t Made l Repaid figure)
Issued
1,000.00
Interest due for 2nd
0.27
0.28
Full chq interest payment
0.27
0.28
1.10
18.90
0.00
0.27
0.00
0.27 Reversal of txn of
0.00
0.27 5/10(after daily int.calc
0.00
0.27 done)
0.00
0.26
-1.10 -18.90
2.47
Interest
0.27
2.47 Adjustment
0.28
1.20
18.12
1.82 Calculation
0.27
1.82
0.27
1.82
0.27
1.82
Partial Interest
0.27 Payment
1.82
0.27
1.82
0.26 Partial Interest
1.82
Payment
0.27
1.82
0.27
2.00
18.00
1.97
0.26
1.97
0.27
1.97
0.26
2.76 1,000.00
Top-Up Loan
0.54
2.76
issued on 23rd
0.54
2.76
0.53
4.37
0.48
4.37
Interest Rate Change to
0.49
4.37
9% on 27th before daily
0.48 interest calc
4.37
Total Interest Due on 29th
Calculations are based on an interest rate of 10% within a 365 day year)
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