The average interest rate mortgage and loan calculate interest based on the amount of money borrower receives at the beginning of the loan. However, if a payment is scheduled to occur periodically during that time period, the average amount that the borrower has has lower access so that the effective or true interest rate is higher. Only if the principal is fully available during the loan term, the rate remains the same as the actual rate. This is an example of the case on the right, where the loan contract is for 400,000 riel Cambodia for 4 months. Interest is set at 16,000 riels (4%) per month while principal matures in one payment at the end .
Video Flat rate (finance)
Calculation of flat rate
Loans with quoted rates using fixed rates originating before the currency are found and continue to be displayed regularly up to and beyond the 20th century in developed countries. More recently, they are also used in the informal economy of developing countries, which are often adopted by microcredit institutions. One of the reasons for the popularity of flat rates is its ease of use. For example, a loan of $ 1,200 can be set up with 12 monthly payments of $ 100, plus interest, due on the same date, 1% ($ 12) per month, resulting in a total monthly payment of $ 112. However, the borrower only have access to $ 1,200 at the beginning of the loan. Since $ 100 is substantially paid each month, the average amount the borrower has for the loan period is approximately half, even more than $ 600. For this reason, as mentioned above, the actual interest rate is almost double. "The general rule known to financial managers is that when flat interest is used, the APR is almost twice the interest rate offered."
To indicate the actual rate underlying the fixed rate, it is necessary to use the amortization schedule of the declining balance, dividing the total cost to the borrower by the unpaid average amount. In the first three examples on the right, the borrower is quoted 1% per month. This is a $ 1,200 loan each, amortized over 4, 12 and 24 month top payments. In the 4-month example, the borrower will make four equal payments of $ 300 in principal and 4 equal payments of $ 12 (1% of $ 1,200) in interest. The total cost of this loan is principal plus $ 48.00 in interest, while the average outstanding amount is about $ 600. This yields an annual average rate of 12%, and an effective or true annual rate of 19.05%. The true value can also be calculated by iterating from the amortization schedule, using the compound interest formula.
To keep interest rates as low as possible, agencies also often require a one-time origination or administrative fee. However, origination fees as low as 4% of total loans can have a major impact on the total cost of the borrower. This is especially true for short-term loans, typical characteristics of microcredit. Because these costs are an inherent borrowing cost, they should also be added to the cost for interest in order to demonstrate an effective APR.
Maps Flat rate (finance)
Benefits of flat rate lending
Flat rates have the following advantages:
- They are easy to calculate and track : Flat rates do not require calculations to incorporate principal and interest into level payments and, as long as this is done on time, does not require compounding calculations (see example on the right). Tariff keeps making loan commitments clear, transparent and easily tracked by both parties. Many microfinance institutions do not have computers, so the complexity of correct and declining balance calculations can confuse their borrowers and even their staff. Semi-formal institutions such as self-help groups, rural banks and ASCAs also usually prefer the flat rate method.
- They meet the vital cash flow requirements of farmers : Many borrowers in developing countries are farmers who demand loans with balloon payments, repaid after they harvest their crops. When the borrower has used the entire principal amount over the entire loan period, the average tariff calculation is equal to the actual exchange rate. For farmers accustomed to this type of transaction, cash loans with an average interest rate are familiar and easy to understand.
- They support 'in-kind' loan transactions: As mentioned above, loans with a flat rate are earned before the currency is found, and are usually used to repay loans with routine mortgages of chickens, eggs , kilos of rice, and so on.
Problems with flat rate lending
Flat rates have the following disadvantages:
- They are complicated by early or late payments : If the loan requests payment periodically but this is not done when it is due, the total credit and payment fees are not applicable; interest must be recalculated based on (a) the amount outstanding over time and (b) the actual value. If the loan is repaid early, refuse to allow an unfair interest discount for the borrower and remove the incentive to honor their legal obligations early. Conversely, if a loan is late to be paid, failing to impose additional interest would be unfair to the lender and encourage the borrower to defame their legal obligations. In either case, it is a mistake to claim that "average" means "fixed" in the total cost of the original credit. Writing practice of microfinance institutions in Bangladesh, S.M. Rahman points out that "[i] one client takes a loan today and offers to pay off all the loan the next day, the client must repay the total loan along with the interest throughout the year, calculated on the fixed rate system."/li>
- Their meaning is sometimes confusing : The expression "average rate" is sometimes thought of as a "fixed rate". As mentioned above, a flat rate is a method of calculating the total cost of credit if all payments are made on time. Whether a variable varies or not depends on the terms of the underlying agreement.
- They can make it difficult to compare rates : As with weight and size, the general system is not the only one but represents the simplest way to compare offers. Loans quoted at a fixed rate are generally applicable where the calculation of a declining balance is incomprehensible to most borrowers, which - as mentioned above - is a case of almost everywhere. "Not just clients, but even educated people sometimes find it difficult to understand the system.The problem is that the average tariff gives the impression of a lower level than it really is." Where loans cited with decreasing equilibrium rates are not required by law, fixed interest rates are also often used. The latter will be chosen by the borrower if they mistakenly believe all rates are comparable without any adjustments. Chuck Waterfield, designer of Microfin, a financial modeling tool widely used for MFIs, asks, "Why does such a system appear in microfinance loans? The answer is clear and not debatable: it allows agencies to charge almost. twice as much interest for the quoted interest rate as with the declining balance method. "
- They may result in lower credit scoring : In addition, the fixed rate calculation may slightly underestimate the size of the outstanding loan portfolio which may result in lower average loan sizes and higher yields high. Both of these characteristics appeal to external donors and investors.
Towards consumer protection in borrow
A less developed economy, the less capacity the government has to organize informal lenders. As a result, Brigit Helms argues for an evolutionary approach to interest rates, where they can be expected to gradually decline as competition increases and the government gains greater capacity to effectively enforce comparable interest rate disclosures on financial sector actors.
F.W. Raiffeisen as early as 1889, wrote to the credit union then appeared in Germany, campaigning against maintaining the total cost for credit unchanged, even when the loan repaid earlier. "It is immoral to charge interest in advance, and it is also unacceptable as a business method.Each member is entitled at any time to repay the loan.If interest has been charged for a full year in advance, the member who has made the previous installment, paid too much interest, unless Credit Union returns the money. "
Separately, the upper limit of the interest rate and the general flats of interest with the actual interest rate, has led some agencies to replace or complete interest with transaction and other costs, sometimes avoiding disclosure norms consistent with APR. For these reasons, interest is no longer quoted with reference to fixed rates in certain developed countries (for example, in the US, see Truth in Lending Act), while many insist that loans always cite APR.
However, loans originally cited and attached with interest rates remain validly contractual and still exist in developed and developing countries.
See also
- Annual percentage rate
- Fixed rate
- Interests
- Microfinance
- Truth in Lending Act
References
Source of the article : Wikipedia
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