Earnings Method: Effective vs. Straight Line
At a high level, what is the difference between Effective and Straight Line earnings method?
Effective
Uses a blended interest rate across any/all rate changes for a contract (or contract item), following an amortization schedule where as payments are made, interest/earnings are reduced.
Straight Line
Determines the total earnings for a contract (or contract item) and evenly distributes it throughout the life of the amortization schedule.
The definition of Effective provided above is not 100% accurate, in the context that the definition is provided.
The comparison of Effective vs Straight-line is a comparison of a setting that exists on some contract items (e.g., IDC).
In that case, "Effective" means that the earnings follow a declining balance amortization (i.e., where the amount of interest/expense is based on the remaining principal balance), as opposed to "Straight-line" where the interest/expense is level for all periods.
The definition of "Effective" provided above fits with the "Adjustment Item Earnings Method" setting, found in v5.19 and forward in the Finance Product details on the contract, where an alternate method is "Customer".
For "Effective" method, at each earnings re-calculation event the initial rate (in TValue the "Nominal Annual Rate") is re-solved to create a blended contract item rate.
For "Customer" method, a rate change event is entered and maintained on the effective date of the earnings re-calculation event.