How the Truth in Lending Act Impacts Consumers & Merchants
Ever shopped around for a home loan, or tried tot find the right credit card for your needs? If so, you know how overwhelming it can be.
Different options, different fees, different interest rates…there’s a lot to consider. Overlooking one simple figure can cost you hundreds, or even thousands of dollars. Selecting a financing option is a big decision. And like any decision, it’s easier if you can make an “apples-to-apples” comparison between the choices.
That’s the whole purpose of the Truth in Lending Act, or TILA. This federal law was designed to ensure that all creditors disclose terms in a standardized, meaningful way. Because of TILA, consumers can more easily compare things like interest rates between lenders.
In this post, we’ll examine the Truth in Lending Act definition, show why it was created, and what it covers. We’ll also explore how it can affect creditors, consumers, and merchants.
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What is the Truth in Lending Act?
- Truth in Lending Act
The Truth in Lending Act, “TILA,” is a US federal law requiring lenders to provide borrowers with certain standardized information prior to extending many types of consumer credit. The aim is to protect borrowers against inaccurate and unfair lending and credit billing practices.
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The Truth in Lending Act was signed into law by President Lyndon B. Johnson in 1968. Its goal was to provide consumers with better information about the actual costs of credit, and help protect them from credit relationships that had been misrepresented by the lender.
The different elements of the law were codified under Regulation Z. The difference between TILA and Regulation Z is mainly technical; TILA is a law, while Regulation Z was a Federal Reserve regulation which implemented the law. For our purposes, the two are synonymous, and we’ll use them interchangeably throughout this post.
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Why was the Truth in Lending Act Passed?
Under the Truth in Lending Act provisions, the borrowing and payment terms of any loan must be divulged in a predetermined manner for easier comparison. In some situations, the law also guarantees consumers the right to back out of a credit agreement without incurring a penalty.
Before the enactment of the TILA, consumers were faced with a bewildering array of credit terms, fees, and rates. Basically, loan information could be provided to borrowers in any manner the creditor chose. This allowed for misrepresentation on the part of credit providers.
Sometimes this involved a deliberate practice, such as offering low rates and adding extensive fees after the fact. Often, however, the confusion could be traced to different methods of calculating terms, or by providing more information than a customer could realistically understand.
Whatever the reason, consumers were finding themselves locked into contracts far different than what they expected. TILA was created to rectify this.
What Information Must Be Disclosed under TILA?
So what does the Truth in Lending Act/Regulation Z require? In a word: transparency.
Regulation Z does not regulate how much interest a lender may charge. However, it does demand that all lenders disclose that information to the borrower up front. The rates must also be calculated and displayed in the same way. Required data includes:
The cost of credit, shown as a dollar amount. This includes payments made directly to the lender, like loan fees, service charges, interest, etc. It also covers other charges required as a condition of the loan, such as appraisal fees or inspection costs.
How long is the term of the loan? When must it be fully paid back? How often will payments be required?
What is the finance charge assessed by the lender? This figure must be expressed as an Annual Percentage Rate, or APR. The lender must explain the APR calculation method (this is also required by the Truth in Lending Act).
Total Sum of Payments
What is the total amount collected from payments across the entire loan? This includes the repayment of the principle, plus all finance charges. Unforeseeable future expenses, such as late charges actually incurred, are not part of this figure.
The lender must provide a detailed financial statement explaining any miscellaneous costs such as late payment fees, interest rate increases, and service charges.
When is TILA Compliance Required?
The federal Truth in Lending Act applies to consumer transactions that meet the following criteria:
- The lender is in the business of extending credit, such as a mortgage company which offers loans to purchase houses.
- A finance charge for the loan may legally be imposed.
- The borrower is a person or persons (as opposed to any type of business).
- The payment schedule includes four or more payments.
- The loan is primarily for personal, family, household, or agricultural purposes.
Regulation Z does NOT apply to:
- Loans for which the total amount will be repaid in 3 or fewer payments.
- Business loans; this generally includes even sole proprietorships or other closely-held businesses, although situations like home-based businesses may need to be decided on a case-by-case basis.
- Student loans.
- Loans for which the credit amount is below $50,000.
When was the $50,000 credit floor set?
At one point, the Truth in Lending Act only applied to transactions where the borrowed amount was $25,000 or less. The enactment of 2010’s Dodd-Frank Act increased the ceiling to $50,000. However, other legislation passed later imposes protections on loans of lower dollar amounts. The Fair Credit Billing Act, for instance, created additional credit card protections not made explicit in TILA, as did the Credit Card Accountability Responsibility and Disclosure (CARD) Act.
The mandate is most often associated with closed-end accounts, such as home or auto loans. However, it also applies to open-ended accounts like credit cards (more on that later).
The Right of Rescission
The Truth in Lending Act helps protect consumers in areas beyond mandatory disclosures. The Right of Rescission Clause, for example, states that if a consumer is required to use their personal residence as loan security, they have three business days to rescind the transaction.
This right applies to all borrowers and/or any person who has a vested interest in the property. The window starts at the contract signing and concludes at midnight of the third following business day. This is assuming that all material disclosures have been properly provided.
The necessary documentation must be accurate and delivered to the borrower. If it is inaccurate, or was not delivered on time, the right to rescind can be extended for up to three years.
State and federal mandates protect consumers from fraud, but we help protect merchants from chargebacks. Let us tell you more.
The window of time afforded by the Right of Rescission Clause is a crucial consumer protection. It gives the borrower a little extra time to check out the “fine print” on the credit agreement. They have a little more time to consider the situation and be sure they want to risk losing their home if something goes wrong.
If they opt to rescind, borrowers are not liable for any amount, including finance charges. Any money or property offered up as collateral must be returned within 20 calendar days.
Does TILA Apply to Credit Cards?
As we mentioned earlier, the Truth in Lending Act can apply to open-ended credit channels like credit cards. Open-ended credit simply means the consumer can repeatedly borrow (within limits) as long as the debt is repaid.
Credit cards were not originally part of the TILA. That changed in 1974, when the law was amended to include the Fair Credit Billing Act. While the best-known legacy of the FCBA was the introduction of chargebacks, the mandate does other things, too. It outlines the way lenders must disclose maximum interest rates, and sets limits for cardholder liability in the event of fraud.
Credit card issuers were also impacted by a more recent amendment to Regulation Z, the Credit Card Accountability Responsibility and Disclosure Act (CARD Act).
The CARD Act applies many of TILA requirements to the issuing of new credit cards. Before issuing a new card, financial institutions must now disclose interest rates, grace periods, and annual fees, just as they would for a closed loan.
The law also states that issuers must notify cardholders of upcoming annual fees or any changes in insurance coverage.
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The Truth in Lending Act & “Point-of-Sale” Financing
One other type of consumer credit form may be affected by TILA: retail installment sales agreements (RISA), sometimes called point-of-sale financing.
A RISA transaction differs from a typical loan. Here, the consumer is borrowing directly from the merchant, instead of a third-party bank or credit union. With a RISA model, the merchant sells an item on credit, allowing the consumer to buy now but repay the cost in installments.
This type of financing simplifies big-ticket purchases such as cars or furniture, but it’s still extending credit to the buyer. That means Regulation Z applies, unless there are no finance charges and the loan is fully repaid in three payments or less.
Unless merchants are offering in-house financing, most don’t really need to worry about TILA compliance themselves. Car dealers or other high-end sellers should be aware that it’s possible—if unlikely—for a contract to be rescinded if the buyer used their home as collateral. Otherwise, though, it’s unlikely to come up.
For merchants, the concern is less about the Truth in Lending Act itself, and more about what that law eventually begat: chargebacks.
Are Truth in Lending Act Disclosures Adequate?
As far as consumers go, Truth in Lending Act protection is reasonably strong. Regulation Z disclosures ensure that customers have a much clearer view of the credit agreement before they get into it.
That said, merchants haven’t been so lucky.
These mandates were created over a half-century ago. They were never designed to cover things like online shopping. They’re solely intended to protect consumers from unscrupulous merchants; not to protect merchants from dishonest consumers. Combined with the rise of the internet and eCommerce, regulations like TILA eventually contributed to an unforeseen problem, now known as friendly fraud.
The internet has allowed borrowers and cardholders to manipulate consumer protection systems to cheat merchants out of legitimate revenue. While Regulation Z is necessary and effective, new mandates need to be considered–ones that more accurately reflect the reality of 21st-century merchants.
The Truth in Lending Act and the Fair Credit Billing Act have helped consumers, but often at the merchant’s expense. If your business is having issues with chargebacks, contact Chargebacks911 today and learn how you can recover revenue with the benefit of a 100% ROI guarantee.