With this article, Document Systems, Inc.'s ("DSI's") Compliance Department launches a three-part series on the rudiments of the Finance Charge, as defined under the Truth in Lending Act1, to respond to a growing number of telephone calls from customers inquiring into whether a particular fee, cost or charge may be excluded from the calculation of a Finance Charge.

The federal Truth in Lending Act ("TILA") requires both lenders and brokers to accurately disclose the Finance Charge to the borrower before the borrower commits to accepting the obligations under a home loan. Additionally, the Finance Charge forms the basis for calculating the Annual Percentage Rate ("APR"), which, in turn, determines if a particular loan is a high-cost or "Section 32" loan. A loan that qualifies as a high-cost loan requires additional compliance. So, knowing which charges the lender can exclude from the calculation of the Finance Charge could be critically helpful to avoiding a high-cost loan transaction.

This article, the first of a three-part series on the rudiments of the Finance Charge, will explain, in general terms, what a Finance Charge is relative to home equity lines of credit (HELOCs) and residential mortgage transactions. The April issue will explain which types of charges, fees, and costs must be excluded from the definition and calculation of a Finance Charge. And, the May issue will discuss those charges that are "gray areas," provide tips on determining whether a particular cost or charge is a Finance Charge, and put the Finance Charge into context of a home loan transaction.

At the outset of a loan transaction, TILA requires creditors2 to disclose the Finance Charge to the consumer for loans given primarily for personal, family or household purposes. The Finance Charge together with the APR must be more conspicuous than any other disclosure to the consumer, except the creditor's identity under Reg. Z Section 226.18(a). (Reg. Z Section 226.17(a)(2).) For open-end credit loans, such as a home equity line of credit, the Finance Charge is among the material disclosures that lenders must provide to each consumer who has the right to rescind under Regulation Z Section 226.15(b) before the very first transaction is made under the loan. For closed-end loans, such as purchase money loans, the Finance Charge must be disclosed before the loan transaction is consummated or not later than 3 business days after the lender receives the consumer's written application, whichever is earlier, to each consumer who is primarily liable on the account or, if the transaction is rescindable, to each consumer who has the right to rescind under Section 226.23.

Definition of "Finance Charge"

Reg. Z Section 226.4 implements TILA Section 106 by defining a "Finance Charge" as:

[T]he 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 as a condition of the extension of credit. It does not include any charge of a type payable in a comparable cash transaction.

According to the Federal Reserve Board's Commentary to Section 226.4, charges that are imposed uniformly in cash and credit transactions are not Finance Charges.

Thus, a fee, cost, or charge meeting the above definition is considered a "Finance Charge." However, keep in mind that such a fee, cost or charge that meets the definition may be excluded under other provisions of Reg. Z Section 226.4 in particular circumstances. These exclusions will be discussed in the April issue of The Compliance Wizard.

Reg. Z Section 226.4 also provides examples of fees, costs and charges that are generally included in the calculation of the Finance Charge. These examples are set forth below:

Charges by Third Parties. The Finance Charge includes fees and amounts charged by someone other than the creditor, unless it is otherwise [expressly] excluded by Reg. Z. Section 226.4, if the creditor: (i) requires the use of a third party as a condition of or an incident to the extension of credit, even if the consumer can choose the third party; or (ii) retains a portion of the third-party charge, to the extent of the portion retained. (Reg. Z Section 226.4(a)(1).)

Closing Agent Charges. Fees charged by a third party that conducts the loan closing, such as a settlement agent, attorney, or escrow or title company, are included in the Finance Charge only if the creditor: (i) requires the particular services for which the consumer is charged; (ii) requires the imposition of the charge; or (iii) retains the portion of the third-party charge, to the extent of the portion retained. (Reg. Z Section 226.4(a)(2).)

Mortgage Broker Fees. Fees charged by a mortgage broker (including fees paid by the consumer directly to the broker or to the creditor for delivery to the broker) are included in the Finance Charge even if the creditor does not require the consumer to use a mortgage broker and even if the creditor does not retain any portion of the charge. (Reg. Z Section 226.4(a)(3).)

Reg. Z. Section 226.4(b) provides further examples of what must be included in the calculation of the Finance Charge. The following are generally included as constituting a Finance Charge unless other provisions of Section 226.4 expressly exclude such fees, costs and charges:

1. Interest, time price differential, and any amount payable under an add-on or discount system of additional charges.
2. Service, transaction, activity, and carrying charges, including any charge imposed on a checking or other transaction account to the extent that the charge exceeds the charge for a similar account without a credit feature.
3. Points, loan fees, assumption fees, finder's fees, and similar charges.
4. Appraisal, investigation, and credit report fees.
5. Premiums or other charges for any guarantee or insurance protecting the creditor against the consumer's default or other credit loss.
6. Charges imposed on a creditor by another person for purchasing or accepting a consumer's obligation, if the consumer is required to pay the charges in cash, as an addition to the obligation, or as a deduction from the proceeds of the obligation.
7. Premiums or other charges for credit life, accident, health, or loss-of-income insurance, written in connection with a credit transaction.
8. Premiums or other charges for insurance against loss of or damage to property, or against liability arising out of the ownership or use of property, written in connection with a credit transaction.
9. Discounts for the purpose of inducing payment by a means other than the use of credit.
10. Charges or premiums paid for debt cancellation coverage written in connection with a credit transaction, whether or not the debt cancellation coverage is insurance under applicable law.

Conclusion

Any fee, cost, or charge that meets the basic definition of a "Finance Charge" must be included in the calculation of the Finance Charge unless it is specifically and expressly excluded elsewhere in TILA or Regulation Z.

This article defined the term "Finance Charge" and described the types of fees, costs, and charges that are generally included in the calculation of the Finance Charge. Stay tuned for The Compliance Wizard's April issue for Part II of this series, which will discuss fees, costs, and charges that lenders and brokers must exclude from the calculation of the Finance Charge.

Melanie A. Feliciano is Assistant General Counsel of Document Systems, Inc. and a member of its Compliance Department.