Summary of Regulation In European Union
- REGULATED ENTITIES
- All consumer credit granting entities
- TYPES OF REGULATION
- Prudential regulation for Banks and Non-Bank financial institutions
- Non-Prudential regulation for Banks and Non-Bank financial institutions
Truth-in-lending Legislation in European Union
The Council of European Communities issued the first consumer credit directive in the European Union in 1986. In 2008, the European Commission issued a subsequent Directive, approved by the European Parliament, replacing the 1986 Directive. The Directives on consumer credit apply to all credit organizations engaged in providing consumer credit, as specified in the scope and subject to exceptions set forth in the Directive.
European member states are required to adopt and publish the laws, regulations and administrative provisions necessary to comply with the Directives. Member states are also required to communicate to the European Commission the text of the main provisions of the national law they adopt to comply with the Directives.
The Directives require Lenders to disclose detailed terms and conditions of the loan at all stages of the loan agreement: in advertising, prior to entering into a contract and in a contract. The disclosure must include the Annual Percentage Rate (“APR”), as defined and taking into account the factors and assumptions described below; and a representative example showing the calculation thereof. To assist the Borrower in comparing offers from different Lenders, the representative example must be the equivalent to the type of credit under consideration.
Remedies and Enforcement Mechanism
Under the Directive, Borrowers may withdraw from the loan agreement within 14 days without giving any reason.
For more detailed aspects of the truth-in-lending directives in the European Union, please download the Legal Summary Document referenced above.
National Truth-in-lending Formula
The Directives require the Lender to calculate the APR, defined as the ratio of the total cost of credit against the total amount of credit, expressed annually. The disclosed APR must equal, on annual basis, the present value of all commitments (drawdowns, repayments and charges), future or existing, agreed by the Lender and the Borrower in accordance with the present value mathematical formula, assuming that the loan agreement will remain in effect for the agreed period.
Calculation of the APR must include all costs imposed on the Borrower, such as interest, commissions, taxes and any other kind of fees required to be paid in connection with the loan agreement, including insurance premiums (if the Lender requires the purchase of such ancillary services in order to obtain the credit or to obtain it on the terms and conditions marketed), all costs associated with maintaining an account, and costs relating to payment transactions. The APR calculation may exclude notarial costs relating to ancillary services in connection with the loan agreement and any charges payable by the Borrower due to non-compliance with the loan agreement.
In the case of loan agreements containing provisions allowing variations in the borrowing rate and, where applicable, charges contained in the APR but unquantifiable at the time of calculation, the APR shall be calculated on the assumption that the borrowing rate will remain fixed in relation to the initial APR and will remain applicable until the end of the loan agreement (For further list of assumptions, please see Annex I to Directive 2008/48/EC).
The aim of using the APR is to provide a numerical and comparable representation of the cost of credit to the Borrower at all stages of the credit process, as detailed above, i.e., at the advertising, pre-contractual and contractual stages.
the Directives’ APR mathematical formula is based on the present value rule, a model widely used to provide a means to compare cash flows occurring at different times by valuing them in the present.
The Directives provide the equation expressing, in rate and annual terms, the total present value of drawdowns equals to the total present value of repayments and payments of charges as:
- X is the APR,
- m is the number of the last drawdown,
- k is the number of a drawdown, thus 1 ≤ k ≤ m,
- Ck is the amount of drawdown k,
- tk is the interval, expressed in years and fractions of a year, between the date of the first drawdown and the date of each subsequent drawdown, thus t1=0
- m’ is the number of the last repayment or payment of charges,
- l is the number of a repayment or payment of charges,
- Dl is the amount of a repayment or payment of charges,
- sl is the interval, expressed in years and fractions of a year, between the date of the first drawdown and the date of each repayment or payment of charges.
Further remarks on the formula provided by the directive include:
- The amount paid by both parties at difference times shall not necessarily be equal and shall not necessarily be paid at equal intervals
- The starting date shall be that of the first drawdown.
- Intervals between dates used in the calculations shall be expressed in years of in fractions of years. A year is presumed to have 365 days (or 366 days for leap year), 52 weeks or 12 equal months.
- The result of the calculation shall be expressed with an accuracy of at least once decimal place. If the figure as the following decimal place is greater than or equal to 5, the figure at the particular decimal place shall be increased by one.
Pricing Components in the National Formula
Pricing Components Included
- Nominal Interest rate
- Fees and Commissions
- Compulsory deposit
Pricing Component Excluded
- Default charge (however, such charges are not prohibited)
- Charge for care, maintenance and protection arrangement for collateral (however, such charges are not prohibited)
- Bank charges – charge for deposits and withdrawals from the current account
- Guarantee charges (however, such charges are not prohibited)
- Charge for fund transfers (however, such charges are not prohibited)
- Other incidental charges – charges not related to the loan agreement, etc. (however, such charges are not prohibited)