Taking on a truck loan is entering into a finance contract, which has terms and conditions like any other type of legal contract. When setting up their truck loan, business owners might typically focus more on achieving the cheapest loan while paying lip service to some of the other details of the loan contract. Borrowers look closely at the interest rate because they know that is key to achieving the cheapest truck finance repayments. Repayments of course attract plenty of attention as they affect cash flow.
But what if some of the other aspects associated with a loan? Specifically, in this instance, we’re looking at how payouts are calculated which involves what is commonly referred to as ‘break fees’. Break fees or penalty charges apply when a loan contract is finalised prior to the agreed end of the fixed loan term.
This can occur under a number of scenarios:-
- When extra payments in addition to the scheduled monthly loan repayments are made. This is quite a common practice with consumer loans but less prevalent with business finance. When additional payments are made while the monthly repayment schedule is adhered to, the loan will be fully paid prior to the end of the loan term and break fees may apply.
- When the truck is on-sold or traded-in while under finance, which is before the end of the loan term while repayments are still owed. This would involve paying out the loan and would attract fees in the payout.
- When a truck loan is refinanced this involves finalising the existing finance contract prior to the end of the term.
Commercial Loan Break Fees: Calculation Methods
Unlike the consumer finance sector which is regulated by ASIC, the commercial/business finance sector is unregulated. So break fees on business finance contracts such as truck loans, are determined by individual lenders.
It is at the discretion of the lender as to which method or formula they apply to calculate the payout and hence the break fees. The main types of methods:-
- A discount rate formula
- Charging a percentage of the outstanding interest payable
- The Rule of 78 or 7/8ths
Discount Rate Payout Calculation Method
When calculating the payout figure on a truck loan under this method, the lender includes:-
- The amounts in arrears if any are owing
- The amount of the repayment instalments still outstanding over the remainder of the loan term calculated at the Present Value.
- Any balloon or a residual amount calculated at the Present Value
- Any charges and fees payable when a loan contract is terminated as set out in the contract.
Calculating the Present Value of the outstanding payments and the balloon/residual is where the discount rate is applied. The discount rate that an individual lender applies to the payout calculation will be included in the contract. It is a rate of interest rate which is typically less than the interest rate charged on the original loan.
As a general guide, the present value is calculated by multiplying the total amounts outstanding by the per month discount rate and the number of months outstanding.
Percentage of Interest Payable Method
In calculating the payout via this method, the amounts outstanding in repayments and balloon/residual are charged and the interest outstanding is charged at a percentage of the original interest rate. So not the full interest rate is charged on the payout.
Rule of 78 Method
To recap and summarise, the ATO ruling TR93/16 sets out when it is appropriate for this method to be applied. The Rule of 78 relates to the timing of when the interest on a loan is charged to the loan by the lender.
An arithmetic formula is used to apply a greater portion of the interest payable to repayments in the early part of the loan term. That is the interest is not evenly distributed over the loan term but more interest is paid by the borrower early in the loan term. This results in the original loan amount being reduced or paid off more slowly. When this method is used, the borrower may find a greater proportion of the principal is still owing if a loan is paid out early.
To see how much interest and principal you are paying down in repayments each month, refer to your loan statement as issued by the lender.
Tips for Minimising Payout Fees and Charges
Paying extra fees and charges for finalising a loan early can be annoying. In some cases, on-selling a vehicle and paying out a loan early may be unavoidable. But there are some considerations borrowers can make when setting up a loan to avoid unnecessary charges.
Primarily, give due consideration to how long you intend to own the truck when buying a new truck and setting up your loan. While that is not always known at the time, give it some thought. If you usually upgrade your truck say every 5 years, then taking a truck loan over 7 years and selling after 5 will incur payout fees.
Reducing the loan term by 1-2 years will result in paying more in monthly payments but you will potentially avoid charges for finalising the contract prior to the agreed conclusion.
You can use our truck loan calculator to see potential figures on repayment options.
When taking on a truck loan contract, read the details around the payout details so you are aware of how that lender calculates the payout if the loan is finalised early. Your Jade Truck Loans consultant will work through how you would like your loan structured and negotiate the most suitable loan terms and repayment amounts for your requirements.
Contact 1300 000 003 for a quote on lending.
DISCLAIMER: THIS INFORMATION IS ISSUED PURELY FOR THE PURPOSE OF GENERAL INFORMATION PROVISION. IT IS NOT TO BE TAKEN AS THE ONLY SOURCE OF INFORMATION FOR BASING FINANCIAL DECISION-MAKING. THOSE REQUIRING FINANCIAL GUIDANCE AND ADVICE SHOULD CONSULT WITH THEIR FINANCIAL CONSULTANT OR ADVISOR. NO LIABILITY IS ACCEPTED FOR ANY MISREPRESENTATION OF POLICIES, DATA OR ERRORS IN THIS CONTENT.