Declining Balance Feature.pdf - Java

Code Bounty Offered for:
Declining balance interest for loans
Terms of the bounty can be found at http://wiki.java.net/bin/view/Javatools/CodeBounties
Background: MFIs typically use two ways of calculating interest for their loans. One is
called “flat interest” (also referred to as “simple interest) in which the interest is
calculated as a “flat amount” based on the principal disbursed and the duration of the loan
repayment. For example, 10% flat interest annually on a 100dollar loan repaid over a
year would be 10 dollars. This amount is typically distributed equally across all
payments, although some MFIs ask the clients pay the interest “up-front”. This way of
calculating interest is not common in the US. Some MFIs also calculate interest based on
the declining balance model which is typical in the US. In this approach, interest is
calculated based on the amount of principal that has not yet been repaid. Because the
amount of unpaid principal (theoretically) declines with each payment in the amortization
schedule, the amount of interest due for each payment also declines. In the example
above, if the interest was 10% declining balance and loan repayments were made
monthly—the amount of interest paid by the customer would be less than 10dollars.
Feature summary: This feature would allow MFIs to create loan repayment schedules
with equal installments and interest based on the declining balance formula.
User Flow:
• User clicks on “Create a new loan product” from Admin screen
• User fills out all details for the loan product. Under the “Interest rate” bolded
header, in the field “interest rate type”, the option “declining balance” appears.
User selects this option. User previews and saves the new loan product.
• User then clicks “Create loan account” and selects an individual or group as the
owner of the loan.
• On “Create loan account – Enter loan account information”, user selects the loan
product type that was defined in the steps above (ie, the one with declining
balance). User fills out the required data needed to create a loan account, and
clicks “continue”
• On “Create loan account – Review Installments” page, user is shown a repayment
schedule calculated based on EMI and declining balance interest rates.
• Formula for calculating repayment schedule is the following:
EMI formula:
EMI = i*P / [1- (1+i)^-n]
Where,
P = Loan amount
r = Rate of interest per year
n = Term of the loan in periods
I= loan duration (fraction of a year)
i = Interest rate per period (r*l)
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Examples:
P=1000, r = 5/100, l = 6/12 n = 2, i = 0.025
EMI = 0.025 * 1000 / [1-(1+0.025)^-2]
EMI = $518.83
The way to apply payments is as follows:
• Loan duration calculation- loan duration should be calculated in
years as per the below given rules:
o If Number of interest days in a year =360
number of days in a month will be 30 for all months,
number of days in a week = 7
o If Number of interest days in a year = 365
number of days in a month will be 30/31 (actual number of
days in a month will be taken)
o Example:
number of interest days in a year = 360,
if interest rate = 3 % p.a.
frequency of installments = every week
number of installments = 20
Then loan duration = 20*7/360 = 140/360 = 0.38 years
• Calculate interest on the principal due: If outstanding balance =
$1000, and i = 0.025, interest is $25
• Calculate the amount to principal which is the monthly payment
minus the interest due: $518.83 - $25 = $493.83
• Calculate the principal remaining, which is the previous principal
remaining minus the amount applied to principal: $1000 - $493.83
= $506.17 (remaining balance)
• Repeat steps 1 – 3 for the remaining installments.
• Repayment schedule should follow rounding rules and decimal precision rules
as defined, and already implemented, in the system.
• Repayment schedule is saved in the system and appropriate values for this
repayment schedule are displayed on the “Repayment schedule” page and
loan account details page.
• If a user misses a payment, repayment schedule does not change. That is,
loan is amortized in advance and interest is due regardless of early
repayment.
Alternate Flow 1:
• User creates a new loan product with declining balance interest.
• User checks the “interest deducted at disbursement”
• System throws an error message that reads: You cannot deduct interest at
disbursement for declining balance loans. Please unselect this option or change
the interest calculation method to flat interest.”
Alternate Flow 2:
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• User creates a new loan product with declining balance interest.
• User selects “principal due on last installment” and saves loan product type.
• User clicks to create a loan account with this product definition, types in relevant
details, and generates repayment schedule.
• Repayment schedule is calculated assuming no principal is paid throughout the
loan cycle. Each payment includes interest charge but no principal. The last
payment includes interest + principal payment.
Alternate Flow 3:
• User creates a new loan product with declining balance interest.
• User selects Grace period type “Grace on all payments”, grace period as N
installments, and saves loan product type.
• User clicks to create a loan account with this product definition, types in relevant
details, and generates repayment schedule.
• Repayment schedule is calculated with the first loan repayment coming N + 1
installments after disbursement date. Interest is not accumulated for this period.
In other words, grace is given on both principal and interest. Start date for loan
repayment schedule is essentially “pushed out”.
Alternate Flow 4:
• User creates a new loan product with declining balance interest.
• User selects Grace period type “Principal only grace”, grace period as N
installments, and saves loan product type.
• User clicks to create a loan account with this product definition, types in relevant
details, and generates repayment schedule.
• To calculate loan duration, grace period should also be included in “total
installments”.
• Repayment schedule is calculated with the first N installments being interest-only
payments—this amount calculated based on the assumption that no principal has
been paid off. After the “principal only grace” ends, and repayment schedule
includes both interest and principal payments amounts calculated per the EMI rule
above.
Other information:
• No permissions are needed for this feature
• This feature has no impact on the “change logs”
Emily Tucker, 30 June 2006 - 3 -

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