Rule of 78

Learning

According to LoanStreet – The Rule of 78 is one of the most prevalent secrets in the banking industry that is barely understood by the public. This post is about me trying to understand how it works, and hoping to share with you so that you understand and be able to figure out how you can apply it to your financial decision.

Since I got to banking I am in a learning mode. Learning how the banking system work. Being a self-professed technical person, I will try to understand things in a more technical way. Whether for good or bad.

The situation now is that I am buying a new car and deciding how many years should I take up the loan. And since I am not yet eligible for staff loan yet, I need to resort to a conventional loan from other local banks that offer Hire Purchase. So in order to calculate this – I need to understand how the settlement works. Well – fact of the matter the settlement is done by returning back to you the interest that was charge. Do understand that for typical hire purchase here is the formula:

Formula.jpg

So what this mean is that the interest are charge up front when you take the loan,

Formula (Example).jpg

Question is now, when you terminate your loan, how do you calculate the interest that will be returned? Well – generally its calculated by “Rule of 78”. What this rule essentially says, the borrower will be paying greater part of the interest during the initial part of the loan. I.e, more interest are apportion during the first year versus in the later years. Note that this is different from the “Daily Rest” or “Monthly Rest” types loan in which the interest are always calculated based on the outstanding balance prorated to the period.

Example “Daily Rest”, the interest rate is divided by 365 days and then applied daily based on the outstanding amount that the borrower has. This should be better because as one pay earlier, the outstanding amount will be less and therefore the knocking off the principal amount is faster. Note that when you pay, interest will be the first to be paid before the principal. Principal is the original loan amount. So if one is smart, you will be able to “game the system” and able to pay less interest if you know when to pay your loan.

Back to Rule of 78. So the question is how do you calculate the weightage? Lets take an example above, 5 years loan. A lender would make a sum of all the months:

illustration

So basically what happened is this, the way the interest is calculated is in reverse. I.e. interest for the first month is based on the assumptions above:

interest calc.jpg

Which make it quite interesting because if the weightage of the interest is fair, then the total interest that will be refunded will be a lot less if you were to settle earlier.

So what I did in order to calculate how long is my loan duration is for me to plot a table of the settlement price versus the depreciation of the car and eye ball for a sweet point in which I am willing to sell off the car. I will explain that in another post. But I hope you do get what I mean by Rule of 78.

You may think that this may not seem fair for the borrower, but you need to understand that for a bank, each of the loan has a lot of cost thats associated to it. From creating the infrastructure to manage the balances to hiring sales people to push the loans. And thus they need to be able to make money out of the lending that they do to their customers.

I hope the post is somewhat beneficial. Remember please do read the terms and conditions of your hire purchase or loans and see if Rule of 78 applies. They may not say specifically that they use Rule of 78, but you can see that the calculation is similar.

rule of 78.jpg

Taken from here  Maybank. Link may not work… 🙂

Note; I am not a financial advisor therefore I am not responsible for any inaccuracy of the information posted here. Please do your own research and consult professionals if you need any advice regarding your financials. I wrote this post to poke my readers curious minds 🙂

Throwback: Masjid Tengku Tengah Zaharah

Photography

It has been a while since I last posted a photo or even a blog post. I have been pretty busy lately and has not gotten much time off to do things that I want to do. I have resigned from my current post though, and will be moving on to a new career and industry. I take it as a challenge for myself. Going to be extremely challenging but with that, I am taking a long break starting. I do plan to go for a long holiday before I step into the new shoe at a new place.

As I am going for a break, it is a good time for me to start picking up back an old hobby that I have long neglected, which is photography. With my new hobby, I think it is also a good time for me to start posting a photo a day! Will this work, I don’t know but let’s try for the next one week and see if I am able to do this. The photo I guess can either be an old photo or a new photo that I taken throughout the week. It does not matter whether I take the photo using my phone or my camera. The important thing is about me having to capture something.

The photo taken is one is on my really old Nikon back in 2006. On a trip to Kuala Terengganu. I must say, the exposure was perfect, I wish I had a better camera so that I can manipulate the dynamic range and get a better photo. Perhaps when I get a better camera, I will make a trip to Terengganu again and reshoot this photo. It has been 9 years since I last took this photo. Just amazing. Looking at my old photo – I have progressed so much in terms of photography. I can safely say that in the past – I shoot mostly snapshot, and now I am extremely picky (perhaps also because Lightroom CC is so expensive in terms of storage. I am still clearing up some old photos and archiving it versus keeping it in Cloud 🙂 I will only keep the good photos on the cloud, and the rest can be kept in my hard drive. If I lose it I don’t really care 🙂

Malaysian Flatiron

Photography

On Sunday – I went out for a walk. After a heavy brunch and Sangeetha, needed to walk off all the calories. Thank god I brought out my camera 🙂 Its one of those rare Sunday afternoon that I took my camera out. Partly due to the fact that I wanted to shoot more photos. I have not been using my camera much, thus bringing it out will push me to use it more often, rather than keeping in on my table (not even in a drybox, since my drybox died!).
The following photo above is the Malaysian Flatiron, located not far from Petaling Street (Chinatown), few steps away from Pasar Karat. No idea what the significance of Pasar Karat though. Perhaps I need to do a bit more research.

The photo below is the original Flatiron. Shoot this photo back in 2008 – when I went to New York for a holiday. One of those days that I took 3 weeks off to spend hell a lot of money and ate hell a lot of food!

Obviously – not so the same, but almost the same 🙂 I guess given how small is the Malaysian Flatiron, the narrowest corner is definitely not usable 🙂