## What is the Rule of 78?

The Rule of 78 is a mathematical formula commonly used by lenders before the widespread access of modern calculators. It served as a quick way for the lender to estimate the payoff amount for installment loans that were paid ahead of schedule.

## Deeper definition

The Rule of 78 was popular with lenders in the 1920s and 1930s. It allocates the interest expense associated with a loan across the loan’s pay periods. However, it tends to give the early periods of the loan more weight than the later periods. This makes the Rule of 78 a poor deal for borrowers.

Loans that use the Rule of 78 usually charge 75 percent of the loan’s total interest in the first half of the loan. Though the Rule of 78 is not as prevalent in today’s lending institutions, some lenders still use it for auto loans. Loans that do use the Rule of 78 tend to be subprime products intended for borrowers with poor credit or unverifiable financial information. The only type of auto loan the lender can use the Rule of 78 for is a pre-computed loan. Lenders calculate the interest on pre-computed loans in advance.

In comparison, a simple-interest loan charges the borrower each day based on the balance owed. When you make payments in advance, this decreases the amount of interest that you owe.

## Rule of 78 example

If you take out an auto loan, you may encounter a product that uses the Rule of 78, especially if you have bad credit, need to roll negative equity into your new loan, or can’t verify your income. For example, assume that you take out a 48-month loan for \$15,000. Over the course of the loan, you’ll pay \$3,000 in interest. However, the loan uses the Rule of 78. Instead of spreading the interest out evenly over the loan term, you’ll pay 75 percent of the interest (\$2,250) during the first 24 months of the loan.

## Other Auto Terms

##### Service contract

Service contract is a term every savvy consumer should know. Bankrate explains it.

##### Capitalized cap cost

Capitalized cap cost is what you’ll pay to lease a car. Bankrate explains.

##### Dealer sticker price

Dealer sticker price is a term every consumer should understand. Bankrate explains it fully.

##### Dealer prep

Dealer prep is a term every car buyer should understand. Here’s what it means.

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