ࡱ> WYV@ M?bjbjFF ,T,,M7NNNNNNNb****4^bp:<<<<<<$e!R#d`N`NNuFNN::VPhNNz >w* :0 $o:$bbNNNN&$NDLB6x,``bb  $ bb INTEREST TUTORIAL The calculation of interest seems to be a subject that causes a deal of confusion. The purpose of this tutorial is to explain the concepts and help to give people an understanding of what they are charged and why, and what the can claim back as part of a claim for bank and other charges. Firstly, some definitions Principal On a fixed sum loan, this is the amount borrowed. Fixed-Sum Credit A loan where the sum borrowed (the Principal) is fixed and repaid at interest over a fixed period. Bank loans are the prime example of Fixed-sum Credit. Running Account Credit A loan where the sum borrowed can be continuously varied. Repayments are subject to a minimum repayment but there is no fixed term. Credit Cards and bank overdrafts are the prime examples of Running Account Credit. Balance (Account Balance) The amount owing at a particular time. Period Interest rate The effective interest rate (what you actually pay) for the period in question usually one month. Effective Daily Rate (EDR) The Period Interest Rate when the period is one day. It is usually calculated from the monthly or annual rate. Nominal Annual Rate (NAR) If the period is one month the NAR = 12* monthly rate. For a daily rate, NAR = 365 * EDR. The Nominal Annual Rate is what you would be charged if you were being charged simple interest. This never happens. What you actually pay is the Effective Annual Rate. Effective Annual Rate (EAR) The Effective Annual Rate is the annual rate you actually pay. It is the period rate compounded over one year (see compound interest). Annual Percentage Rate (APR) This is the Effective Annual Rate rounded to one decimal place. The rate specified and defined by the OFT to allow different loan terms to be compared. How APR is to be calculated is specified in the OFT booklet Credit Charges and APR ( HYPERLINK "http://www.oft.gov.uk/shared_oft/business_leaflets/consumer_credit/oft144.pdf" \t "_blank" OFT144). Interest date The date on which interest is added to the account. This is usually at the end of each month. Total Cost of Credit For a fixed-sum loan this is the amount the borrower pays the loan company for the privilege of borrowing the money. It is calculated as the sum of all the repayments minus the principal. Simple interest Interest that is calculated on the outstanding balance of the principal alone. Interest is not charged on any interest previously charged. Compound Interest Interest that is calculated on the account balance. This balance includes the outstanding balance of the principal plus any interest previously charged. Contractual Interest Contractual Interest is the interest rate you are charged in a contract (eg the EAR on a credit card). The term is used in at least two different ways on this site: The interest levied by the bank on the account balance, on unlawful bank charges and PPI payments, etc Interest claimed at the banks normal rate in restitution for their unjust enrichment These are described in more detail later. Simple Interest Simple interest is calculated by applying the period rate to the principal (or outstanding balance of the principal) alone. No interest is added to interest previously charged. For example, for a principal of 100 and monthly rate of 2% (note: 2% = 0.02): At the end of the first month the balance (assuming no payments) would be 100 + (100 * 0.02) = 102 At the end of the second month the balance would be 100 + (100 * 0.02) + (100 * 0.02) = 104 and so on. The interest over one year would be 100 * (0.02) * 12 = 24 The Effective Annual Rate is therefore 24%. The only time you will come across simple interest is in claiming interest under section 69 of the County Courts Act 1984. This allows the Claimant to claim simple interest on the claim at 8% per annum (0.022%/day) from the date of each charge to the date of judgement or earlier settlement. Compound Interest Compound interest is calculated by applying the period rate to the total outstanding balance (balance of the principal plus interest already applied). For example, consider a principal of 100 and monthly rate of 2% (note: 2% = 0.02): At the end of the first month the balance (assuming no payments) would be 100 + 100 * 0.02 = 100 * (1 + 0.02) = 102 At the end of the second month the balance would be 102 + 0.02 * 102 = 102 * (1 + 0.02) = 104.04 This can also be written as 100 * (1 + 0.02) * (1 + 0.02) = 104.04 For 12 months we have 100 * (1 + 0.02) * (1 + 0.02) * (12 times), which we write as 100 * (1 + 0.02)^12 On this basis, the balance at the end of 1 year would be 100 * (1 + 0.02)^12 = 126.82 and the total interest is 26.82, an Effective Annual Rate of 26.82% or an APR of 26.8%. This is the way that all banks, credit card companies and loan companies calculate interest. The only difference is that banks, etc do the calculation daily rather than monthly. Total Cost of Credit and APR The above definitions and examples ignore the effects of making repayments. Assuming a loan with monthly payments, the balance at the end of the first month would actually be balance 1 = principal * (1 + monthly rate) payment 1 and, at the end of the second month balance 2 = balance 1 * (1 + monthly rate) payment 2 and so on. Under the Consumer Credit Act 1974 your loan must contain certain information amount borrowed (principal), monthly payments, number of payments and APR. The monthly repayments are calculated so that at the end of the loan period of n months (2 years - n=24; 3 years - n=36, and so on) balance n = 0. Most loans will also have the Credit Charge or Total Cost of Credit listed or the Total Payable. The Total Payable is just the total of all the monthly payments plus any special initial or final payments. Typically a loan over n months will have an initial payment (which may or may not be the same as the regular monthly payment), a final payment and n-2 regular monthly payments. So Total Payable = initial payment + (n-2) * regular payment + final payment And the Total Cost of Credit or Credit Charge will be Total Cost of Credit = Total payable Principal Calculating the APR from the Principal and Total Cost of Credit or monthly payment information is very complex. The OFT provide a free piece of software for doing it called DualCalc which you can download  HYPERLINK "http://www.oft.gov.uk/advice_and_resources/resource_base/consumer-regulations/dualcalc/dualcalc/" \t "_blank" here. One implication of all this is that, early in the loan period, most of the repayments are going to pay off interest rather than principal. This is why early repayment deals often require payments rather more than the original principal even though a significant amount has been paid. For Running Account Credit (eg credit cards), it is not possible to give a figure for the Total Cost of Credit as neither the loan amount nor the repayments are fixed. However, the APR has to be given on the Credit Card Agreement along with the credit limit (or how it will be determined) and the minimum monthly payments (or how they will be calculated). Claiming Interest What interest can I claim? If you are claiming unlawful charges from a bank, credit card company or finance company or claiming back PPI payments, you can claim back the interest they have levied on the charges you are reclaiming. You can also claim interest specified under s69 of the County Courts Act 1984 calculated as simple interest at 8% per annum (0.022%/day) on all the charges and interest levied on those charges from the date of the charge until the date of (court) judgement or earlier settlement. You can only claim this interest when you file a claim in court. Instead of s69 interest, some people are claiming interest in restitution for the unjust enrichment of the bank, credit card company or finance company. The argument is that the bank has used my money to lend to other people at interest and therefore made a profit for the bank. In order to put things back as they would have been had the bank not used my money in this way (restitution), that profit ought to be taken off them. This profit is calculated as compound interest at the banks normal interest rate on all the charges and interest levied on those charges from the date of the charge until the date of (court) judgement or earlier settlement. Interest for restitution is supported by case law ( HYPERLINK "http://www.publications.parliament.uk/pa/ld200607/ldjudgmt/jd070718/sempra-1.htm" \t "_blank" Sempra Metals) - you can read a summary of the case in  HYPERLINK "http://business.timesonline.co.uk/tol/business/law/reports/article2133988.ece" \t "_blank" the Times. What interest can I not claim? You cannot claim overdraft interest on legitimate overdrafts, that is, on that portion of overdrafts not made up of unlawful charges. Similarly you cannot claim back interest on purchases made with a credit card, nor the interest charged on a fixed-sum loan. Estimating interest charged You can claim back the interest you have had levied on the charges you are reclaiming. The problem is that you can only calculate this exactly if you have access to every transaction on your account and to the software the bank use to calculate the interest. Obviously, we get all the transactions from the bank or credit card statements sent in response to a Subject Access Request. However, there is no way of obtaining exact information on how the bank calculates interest charges. Therefore, we need a method of estimating this interest. PPI on loan agreements This is actually the easiest to calculate. On a properly executed agreement you will find the following information: PPI charges APR Calculate the number of years since the agreement came into force. This can be years and parts of year expressed as a decimal (eg 2 years and 145 days is 2+(145/365) = 2.397 years) call this y, say. Interest on the PPI is then PPI * (1 + APR)^y PPI (Remember to express the APR as a decimal 26% should go in the equation as 0.26) Current Accounts Most banks use a complicated method of charging overdraft interest based on a daily rate applied to the daily balance with the interest charge added up and charged at the end of the month. There is no interest charge if the account is in credit or if the balance is above any agreed free overdraft limit. The simplest way of estimating the interest on charges is to keep a running total of charges and then multiply each interest charge on the statement by the proportion of the balance attributable to charges at the interest date: Interest on charges = Total charges to date/Account balance * interest charge. Having done this for each interest charge on the statements, add them up to get the total interest charged on the bank charges being reclaimed. This method is the one used in the  HYPERLINK "http://www.consumeractiongroup.co.uk/forum/bank-templates-library/182-6-interest-calculation-spreadsheets.html" \t "_blank" Advanced Spreadsheets in the Bank Templates Library. Remember that an overdraft balance is negative. Credit Cards The method used by credit card companies to add interest is very similar to the method used by banks for calculating the interest on overdrafts. The same Advanced Spreadsheet can be used as for Current Account charges. Alternatively, you can use this simpler  HYPERLINK "http://www.shweb.pwp.blueyonder.co.uk/interestcalcs.xls" spreadsheet. Again, remember that the credit card balance is negative. Check Some people are very surprised when they first calculate the interest on charges for their claim as it seems too big. This is because compound interest mounts up very quickly. As a simple sanity check you can apply the following: At 14% APR a debt doubles roughly every 5 years At 19% APR a debt doubles roughly every 4 years At 26% APR a debt doubles roughly every 3 years At 32% APR a debt doubles roughly every 30 months At 40% APR a debt doubles roughly every 2 years Interest and Credit Agreements When you apply for credit, the Loan Company or Credit Card Company must supply you with certain information about the interest you must pay and this information must be included in the credit agreement. These are the Prescribed Terms referred to in section 61(1) of the Consumer Credit Act 1974. They are specified in Schedule 6 of the Consumer Credit (Agreements) Regulations 1983. Fixed sum credit The prescribed terms for fixed sum loans (including unsecured and secured bank loans and HP agreements) are: 1. A term stating the amount of the credit 2. A term stating the rate of any interest on the credit to be provided under the agreement. 3. A term stating how the debtor is to discharge his obligations under the agreement to make the repayments, which may be expressed by reference to a combination of any of the following-- (a) number of repayments; (b) amount of repayments; (c) frequency and timing of repayments; (d) dates of repayments; (e) the manner in which any of the above may be determined; or in any other way, and any power of the creditor to vary what is payable. Running account credit The prescribed terms for running account credit (including credit cards, catalogues, etc) are: 1. A term stating the credit limit or the manner in which it will be determined or that there is no credit limit. 2. A term stating the rate of any interest on the credit to be provided under the agreement. 3. A term stating how the debtor is to discharge his obligations under the agreement to make the repayments, which may be expressed by reference to a combination of any of the following-- (a) number of repayments; (b) amount of repayments; (c) frequency and timing of repayments; (d) dates of repayments; (e) the manner in which any of the above may be determined; or in any other way, and any power of the creditor to vary what is payable. If any of these terms are missing from the agreement, the agreement is not properly executed and is not enforceable. 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