For over 50 years, the Truth in Lending Act (TILA) has provided a standard of how to calculate Annual Percentage Rate (APR), a required disclosure of the cost of consumer credit. This allows consumers to draw conclusions as to the comparative costs of similar loan products. Using TILA to calculate APR also provides consistency in disclosures relating to voluntary protection products (VPPs), like credit insurance, which are expressly excluded from the finance charge if the creditor provides the consumer with certain written disclosures. Efforts to implement an “all-in APR” that includes goods, services, and VPPs in the calculation for credit will ultimately limit options for families to protect their finances.
Enacted in 1968 by Congress in the Truth in Lending Act (TILA), the APR is a required disclosure of the cost of consumer credit, intended to promote the informed use of consumer credit, enabling consumers to compare like credit products.
The APR has never been associated with the cost of goods, services, or insurance. Therefore, in TILA the cost of VPPs is expressly excluded from the finance charge if the creditor provides the consumer with certain written disclosures.
Despite this proven and clear approach to the APR calculation, there have been proposals to create a separate APR calculation that includes the VPP costs in the APR (aka, “all-in” APR). Frequently, an all-in APR is coupled with a maximum cap, such as 36%. While this strategy intends to help consumers understand what they are financing, it does exactly the opposite.
The adoption of a 36 percent all-in cap will essentially require lenders to offer larger, longer duration loans because these loans are “easier” to fit under the cap precisely due to their increased size and duration. This effectively encourages borrowers to take on more debt or, for many borrowers with lower creditworthiness, push them out of the market for small dollar credit altogether. Additionally, all-in rates artificially lower the allowable rate further and indirectly limit access to voluntary protection products, valued by consumers for the added financial resilience they provide.
Policymakers must avoid creating the widespread confusion for consumers that comes with all-in rate caps and undermines the decades-old, well-understood standard set by the TILA calculation of APR.
Five decades of jurisprudence and regulatory guidance have led to confidence in the term “APR”—what it means, what is included, and what is not included in its calculation. It is not useful to add the cost of voluntary products as a “cost of credit” by inclusion in APR.
The definition of finance charge in Reg Z, 1026.4(a) is:
Definition. The finance charge is the cost of consumer credit as a dollar amount. It includes any charge payable directly or indirectly by the consumer and imposed directly or indirectly by the creditor as an incident to or a condition of the extension of credit. It does not include any charge of a type payable in a comparable cash transaction.
Credit insurance—and other ancillary products, for that matter—are voluntary, and never imposed by the creditor or anyone else. Accordingly, if the creditor does impose a charge—making it mandatory—then it must be included in the finance charge under TILA. Clearly, under Reg. Z, ancillary product fees are not finance charges.
“If ancillary products are not required as part of the credit, then the fees for them are not payment for the credit granted [,] and the fees economically are not finance charges.” –Thomas A. Durkin, former Federal Reserve Senior Economist
The Federal Trade Commission (FTC) is expediting fundamental changes in the motor vehicle dealership-customer transaction experience. The ill-conceived Motor Vehicle Dealers Trade Regulation Proposed Rule requires numerous oral and written disclosures related to the sale and financing of a motor vehicle and voluntary protection products (VPPs) such as guaranteed asset protection (GAP), credit and GAP insurance, debt cancelation agreements, and motor vehicle service contracts (VSC).
As proposed, the Rule would limit or eliminate VPPs available to consumers, stifle competition among dealers and VPP providers, provide for an unfair advantage for manufacturer VPPs, lead to price fixing for VPPs, limit negotiations over VPP price, subject dealers to subjective “findings” of unfair and deceptive practices, and contravene or cause confusion with state regulations.
The FTC has justified the Proposed Rule as necessary “to ban junk fees and bait-and-switch advertising tactics that can plague consumers throughout the car-buying experience.” When it announced the Proposed Rule, the FTC cited surging auto prices, and high levels of consumer complaints related to automobiles in spite of vigorous enforcement efforts in recent years in the car-buying space. However, the FTC fails to evidence ‘widespread patterns of unfair or deceptive acts’ for dealership vehicle or VPP sales that warrants systemic industry changes. It relies upon a few targeted enforcement actions against dealers, a study of only 38 consumers which the CFPB and Bureau of Economics report staff acknowledges is not useful for forming quantitative or generalizable conclusions, and a vehicle buyer study which has been updated to indicate overall satisfaction of buyers with dealership experience of 75%.
The rule would create an anti-competitive market for VPPs by not subjecting manufacturer provided VPPs to the same sales process for other VPP providers, resulting in an unfair advantage stifling competition for higher value products and lower pricing, and putting smaller VPP companies at a disadvantage.
The proposed rule would complicate the car buying process, making it harder for consumers to choose loan protection options. Consumers might face multiple confusing disclosures and dealer oversight, leading to longer purchasing times and potential confusion about protection offerings. Dealers might limit the variety of protection options they offer to avoid confusion. This could make it harder for consumers to find suitable protection for their vehicle type, loan term, or coverage needs. Additionally, if regulators make subjective judgments about dealer practices, dealers may be discouraged from offering protection plans and making oral disclosures.
Additionally, the FTC issued the trade regulation rule in violation of 16 CFR § 1.10 requiring prior notice of the rulemaking to Congressional committees and sufficient advance notice to the public to afford more input from stakeholders regarding the need for, scope of, and other possible alternatives to reach the desired goals of these proposed Rules.
VPPs ADD VALUE TO CONSUMERS
To provide the most accurate and fair pricing to our customers, insurers use a variety of rating factors that have been proven to accurately predict the risk of loss to policyholders and are comprehensively regulated by the states. Any undue restriction on the use of these regulated factors by Congress would preempt state regulation and have a major negative impact on insurance markets.
The business of insurance is regulated at the state-level in order to address the unique factors applicable in the individual states and provide the appropriate consumer protection for those factors. This benefit of tailored and localized regulation of insurance was acknowledged by Congress with the passage of the McCarran-Ferguson Act of 1945, which states that “the continued regulation and taxation by the several States of the business of insurance is in the public interest” and therefore it was enacted that “[n]o Act of Congress shall be construed to invalidate, impair, or supersede any law enacted by any State for the purpose of regulating the business of insurance, or which imposes a fee or tax upon such business, unless such Act specifically relates to the business of insurance[.]” The McCarran-Ferguson Act has been reinforced continually since its enactment; consumers are better serviced and protected under a state-based regulatory system.
One area where we have recently seen efforts to undermine the state-based regulation of the business of insurance is through the introduction of bills that would prohibit, at the federal level, the use of certain actuarially justified rating factors insurers use to predict risk and set insurance premiums. The foundation of insurance is the transfer of risk from the policyholder to the insurer in exchange for a premium that includes the costs associated with the cost of the risk being transferred.
The states, and the nearly 11,000 regulators and staff that they employ, use their regulatory authority to ensure compliance with applicable risk-based pricing laws; and have a vast range of enforcement tools which assures fairness in insurance and helps assure competitive and solvent insurance markets.