The Fineract Transaction Processing Strategy Explained (mifos-standard-strategy...)

Table of contents

• What is a Loan Repayment Allocation Strategy?
• Mifos standard strategy (charges first allocation)
• Interest, principal, penalties, fees order strategy (Interest First)
• In Summary

What is a Loan Repayment Allocation Strategy?

When working with Fineract every loan payment a borrower makes has to be split across different parts of the loan.

The system provides you with the option to decide how loan repayments are processed.

A typical loan is not just one number, it could be made up of all or some of the following:

• Principal (the actual amount borrowed)
• Interest (the cost of borrowing)
• Fees (service charges)
• Penalties (late payment charges)

Which of the above is processed first is based on the strategy you choose. This setting is also applied by setting the transactionProcessingStrategy attribute when creating a loan product [→].

You must set it to one of the following:

• mifos-standard-strategy
• interest-principal-penalties-fees-order-strategy

This setting defines the repayment allocation order.

It determines:

• how fast the loan balance reduces
• how much interest is collected
• how fees and penalties are handled
• the overall borrower experience

Ok enough with the business speak, lets look at the three strategies available.

Mifos standard strategy (charges first allocation)

This is when you set transactionProcessingStrategy = mifos-standard-strategy

This is the default strategy and is commonly described as Charges first

Payment Order:

1. Penalties
2. Fees
3. Interest
4. Principal

For example

Say a borrower owes:

• Principal: GHS 100
• Interest: GHS 10
• Fees: GHS 5
• Penalties: GHS 2

They make a payment of GHS 20.

Here is what happens:

• GHS 2 goes to penalties, Balance is GHS 18 after
• GHS 5 goes to fees, Balance is GHS 13 after
• GHS 10 goes to interest, Balance is GHS3 after
• The remaining GHS 3 goes towards the loan principal

Result:

• Remaining Principal: GHS 97
• Remaining Interest: GHS 0
• Remaining Fees: GHS 0
• Remaining Penalties: GHS 0

What this means

Even though the borrower paid GHS 20, only GHS 3 actually reduced the loan.

This strategy is:

• safer for lenders
• ensures all extra charges are cleared first
• slower at reducing the loan balance

Interest, principal, penalties, fees order strategy (Interest First)

This is when you set transactionProcessingStrategy = interest-principal-penalties-fees-order-strategy

This is often called Interest-first repayment strategy

Payment Order:

1. Interest
2. Principal
3. Penalties
4. Fees

For example

Using the same loan:

• Principal: GHS 100

• Interest: GHS 10

• Fees: GHS 5

• Penalties: GHS 2

• Payment made: GHS 20

• GHS 10 goes to interest , balance of GHS 10 after

• The remaining GHS 10 goes to principal

No money left for fees or penalties in this case

Result:

• Remaining Principal: GHS 90
• Interest: GHS 0
• Fees: GHS 5
• Penalties: GHS 2

What this means

Here, GHS 10 reduces the loan, compared to only GHS 3 in the previous strategy.

This strategy:

• reduces debt faster
• lowers long-term interest burden
• favors the borrowers

In Summary

Below is a quick comparison of both strategies:

If both strategies don't meet your needs then you need to extend Fineract, something I will cover in another post called Creocore :)