What Is Regulation Z And Why Is It Important?
Borrowing money for any purpose can be a daunting process at the best of times. Even though online installment loans feature a largely streamlined application process, the most important factor for borrowers to understand is the fine print containing the costs, terms, and conditions.
Regulation Z is consumer-focused regulation designed to make the fine print more clear and easier to understand. Passed as part of the Truth In Lending Act, this set of reforms ensures that lenders have to make clear statements to borrowers about the cost of credit to help consumers make an informed decision.
Read on to explore how these new directives impact the application and qualification process for certain credit agreements.
How Does Regulation Z Impact Borrowing?
When introduced in 1968, the Truth In Lending Act was passed to provide protection for a growing middle class. This period saw a sharp rise in the numbers of people who were taking on credit agreements to finance their quality of life aspirations and desire for new consumer products.
As borrowing gathered momentum, the government saw a need to standardize the language and presentation of loan terms and conditions. This was done to tackle unscrupulous lenders seeking to dupe new borrowers by trapping them in unmanageable debt. Additionally, it was designed to give borrowers a better chance to effectively compare offers.
Regulation Z has been updated over the years to adapt to new borrowing habits and credit products. In 2011, the government ensured the Consumer Financial Protection Bureau (CFPB) had rule-making and enforcement powers.
While this regulation doesn’t obligate lenders to offer or honor specific costs and terms to borrowers, it does force them to present all information regarding terms, interest, fees, and disputes across all consumer credit products.
With respect to mortgages and home loans, Regulation Z lays out the following rules and parameters:
- Mortgage Origination Fees - Mortgage originators bring customers to lenders and expect to be rewarded for their efforts. This piece of financial regulation ensures that brokers can only be paid on the basis of the total amount borrowed, and not on the interest rates or fees associated. For example, a mortgage originator wouldn’t be paid any more for a loan at 5% APR over 4% APR. However, they would earn more for a $500,000 loan as opposed to a sum of $400,000
- Documentation - According to the rules, mortgage lenders must provide potential borrowers with two documents before closing. It’s crucial that borrowers compare the two and make sure all numbers add up before signing
- Loan Estimate - This lists the total amount, APR, closing fees, and exact monthly payment schedule
- Closing Disclosure - This five page document breaks down the total cost of the mortgage
- High-Priced Mortgages - Mortgages that are more expensive for home buyers need to undergo appraisal according to Regulation Z. This confirms that the high price of the mortgage is fair and in line with the value of the property being purchased
Regulation Z And Credit Cards
The CARD Act of 2009 made significant changes to Regulation Z, with the aim of protecting consumers using credit cards. This update stomped out a number of abusive practices being employed by certain lenders offering unsecured revolving lines of credit. Here’s how:
- Disclosure - Before opening a new credit card account, the issuer must provide an ‘addendum’. This is a single page document listing all costs, fees, and interest. Issuers must also be able to immediately provide a copy of the cardholder agreement if requested
- Upfront Fees - Under Regulation Z there is a limit on the total of fees borrowers pay to open a new credit card account. Fees can’t exceed 25% of the total credit limit. For example, if a card has a credit limit of $500, then the upfront fees can’t go over $125
- Repayment Priorities - Many credit cards have facilities for different types of borrowing at differing interest rates. As well as regular purchases, many people take on credit card debt in the form of cash advances or balance transfers. According to Regulation Z, any payment made over the minimum monthly amount, must go towards paying off the balance with the highest APR first
- On-Time Billing - Credit card issuers must ensure holders receive their monthly bill at least 21 days before the payment deadline
- Help Consumers Understand Their Debt - Regulation Z states that issuers must make it as easy as possible for credit card holders to understand their debt balance, repayment options, and the costs involved. Borrowers must be warned about only making minimum payments and the charges must be laid out clearly
The lender's obligation to keep all records of loan applications, payments, and defaults, is another important principle of Regulation Z. Credit issuers are obligated to keep these records for two to five years.
These records are crucial when it comes to dispute resolution and protects the interests of both sides. However, it’s also important (though not required) for borrowers to also maintain copies of all documentation for their own records.
Regulation Z is designed to protect borrowers and keep unscrupulous lenders out of the market.
When making a big decision like taking on debt, all the relevant terms, conditions, and costs must be made available in order to make an informed and responsible choice. Regulation Z ensures that all information, data, and records are available and maintained at all times.