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Understanding Credit & Debt

Understanding Credit


Credit

Credit is borrowed money that you can use to

purchase goods and services when you need

them. You get credit from a creditor, and in turn,

you agree to pay back the amount you spent,

plus applicable finance charges, according to the

terms they set.


Types of Credit

Revolving credit- With revolving credit, you are

given a maximum credit limit, and you can make

charges up to that limit. Each month, you carry a

balance (or revolve the debt) and make a payment.

Most credit cards are a form of revolving credit.


Types of Credit

Service credit - Your agreements with service

providers are all credit arrangements. You receive

electricity, cellular phone service, gym

membership, etc., with the agreement that you will

pay for them each month. Not all service accounts

are reported in your credit history.


Types of Credit

Installment credit - With installment credit, a

creditor loans you a specific amount of money, and

you agree to repay the money and interest in

regular installments of a fixed amount over a set

period of time. Car loans and mortgages are two

examples of installment credit.


Types of Credit

Secured Credit - Loan for which

some form of acceptable

collateral, such as a house or

automobile has been pledged.

Unsecured Credit - Credit

extended without collateral, i.e.

without the ability to attach

specific borrowed assets in the

event of default.

Using Credit Wisely


Using Credit Wisely

Do:

Limit yourself to one or two cards

Differentiate between needs and wants

Remember that credit cards are for convenience

Keep your balances below 30% of your credit limit

Pay your credit card bill in full each month

Keep your credit card receipts and review your

statements

Let your creditor know in advance if you won’t

be able to make your monthly payment on time


Using Credit Wisely

Don’t:

Use your card to pay for necessities that should be

covered in your budget

Skip payments - EVER

Use one credit card to pay another

Get into the habit of making minimum-only

payments

Close out a credit card without knowing how your

credit will be impacted


Possible Consequences of

Irresponsible Credit Use

Possibly denied credit in the future

Likely to pay higher interest rates

Could have difficulty renting an apartment or

purchasing a home, car etc.

Can be denied employment because of a poor

credit history

May have to pay a large deposit for a cell phone or

other utilities

Understanding Debt


Good vs. Bad Debt

When most people think of

debt, they automatically

assume that it is bad for

your financial situation.

While this is often true, it is

not always the case. A

person can carry both good

and bad debt for a variety of

reasons.


The key to good debt management is

increasing your awareness about what debt is,

how it works and how it affects you.


Good Debt

Good debts can be (but are not always) an

investment in your financial future. Good debt is

taken on for a sound reason and there is an

expected payoff later. Typically, these debts have

lower interest rates: Examples may include:

• Student loans

• Mortgage loans

• Business loans


Bad Debt

Bad debts typically offered at higher interest rates.

They typically do not appreciate in value or benefit

you in the future.

• Credit card debt

• Automobile loans

• Personal loans

• Payday loans

Debt to Income Ratio



How do you determine what level of debt is reasonable

to carry ? An easy way is to look at the relationship

between your monthly debt and your income. Use this

simple formula to calculate your debt to income ratio.

© CESI Consumer Education Services, Inc. | 855-705-2187

| CESISolutions.orgTotal

Monthly

Debt

Payments*

Total

Monthly Net

Income

Debt To

Income

Ratio

*Includes your mortgage and home equity loan payments, car loans, student loans, minimum monthly

payments on credit card debt, and any other loans that you might have.



A low DTI demonstrates

prudent financial decisions,

and is preferable to lenders.

Higher DTI ratios may prevent

you from qualifying for a needed

loan, simply because it shows

that your extended credit is maxed out. In other words, you

don't have enough income to cover more debt.© CESI

Consumer Education Services, Inc. |


Debt Ratios

A generally accepted rule of

thumb is that the maximum

Debt to Income ratio a

household should have is

36% or less.

Typically, the maximum

allowed Debt to Income

ratio that a lender will allow

when qualifying for a

mortgage is 43%

Spending Habits That

Lead to Debt


Your Spending Matters

Spending more money than

you make….Can lead to debt.

Dipping into savings, borrowing from

others, and using credit are the primary

ways of spending more money than you

bring in.



Spending money you don't

have….Can lead to debt.

You spend money you don't have by

using credit cards and taking out

loans. When you use these

instruments to pay bills and make

purchases, you're creating debt. If you

can't repay the debt each month, it

will continue to grow.



Using credit for ordinary

purchases…. Can lead to

debt.

You should use cash or

checking/debit card to make

everyday purchases like groceries,

gas, clothes, and entertainment.



Using debt to pay off

debt.…. Can lead to debt.

When you use credit cards to pay off

other cards, and loans to pay off

other loans you're not paying off

anything. You're just shuffling your

debt around and incurring more debt

each time you do. When you use

debt to pay off debt, you often end

up worse than when you began.

Start Fresh Today Can Help!


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Understanding Credit & Debt - Start Fresh Today€¦ · Types of Credit Installment credit - With...

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