Unit 5: CreditCredit Cards, Loans

& More!Mr. Elsesser

Introduction toFinancial Management

DO NOW:BRAINSTORM:

Answer these questions…What is your definition credit?

What is Credit? Credit:

An arrangement to receive cash, goods, or services now and pay for them in the future.

How Credit Works: You borrow money from a creditor to use for

personal needs. Using credit may increase the amount of

money you can spend now, but the cost of credit decreases the amount of money you will have in the future.

Consumer credit is a major force in the American economy, and the use of credit is a basic factor in personal and family financial planning.

Factors to Consider Before Using Credit

Before you decide to finance a major purchase using credit, consider:

Do you have the cash you need for the down payment?

Can you afford the item?Could you put off buying the item for a while?

What are the costs of using credit?

Make sure the benefits of making the purchase now outweigh the costs of credit

Types of Financial Institutions Involved with

CreditWhen you borrow money or charge an item to a credit card, you are using credit.

Entities that loan money are called creditors.

BanksCredit UnionsInvestment FirmsRetailersFinance CompaniesTax preparers Pawn ShopsGovernment agenciesColleges

Benefits of Using Credit

Using consumer credit allows you to: Enjoy goods and services now and pay for them later.

Combine several purchases, making just one monthly payment.

Keep a record of your expenses.Shop and travel without carrying a lot of cash.

If you use credit wisely, other lenders will view you as a responsible person.

Types of Credit/LoansCredit and loans are offered to consumers in the following forms:

Credit Cards Student Loans Real Estate Loans Cash Loans Car Loans Installment Loans Personal Loans

Each type of loan has its own repayment terms and conditions of use.

Cost of CreditWhen taking out a loan or applying for a credit card, you find out its cost/affordability by: Assessing Interest Rates:Variable vs. Fixed Interest RateTruth in Lending Act:

Requires organizations to state true APR. Identifying Finance Charges & Fees:

Annual feesLate feesFees for rewards programs

Examples of Cost of CreditThe length of the loan has a direct relationship on the price of the product and cost of credit.

Shorter = CheaperLonger = More Expensive.

Interest rates have a direct relationship on the amount the item costs the consumer on credit.

Higher Rates = More expensiveLower Rates = Less expensive (price of item

close to retail cost).Prepayment of a loan can reduce the length and cost of the loan.

Prepayment = making larger payments then required.

Bank Rate Auto Calculator Example

Business and Personal Finance Unit 2 Chapter 6 © 2007 Glencoe/McGraw-Hill

Steps to Taking A Loan1. Determine what creditor you will use. 2. Complete the Loan Application

Ensure that you compare interest rate and fees.

3. Determine Length of LoanLonger the repayment, lower the monthly repayment, Amt. of interest paid HIGHER.

4. Know the Interest Rate:Variable vs. Fixed Interest RateTotal item cost = purchase price + interest

5. Collateral vs. No Collateral Collateral loans (car, mortgage) = lower rates

Consumer Considerations:Can you afford payments? Needs vs. Wants, Fees/Total Costs

Factors Affecting CreditThere are a variety of factors that determine whether a lender will extend credit to you: Five C’s of Credit:

CharacterExamines person’s living & employment situation.

CapacityCan you repay? Examines salary & other debts.

CapitalLooks at your net worth/assets. How else could you

repay?Collateral

Property or other things you own to secure the loan.Credit History

Do you pay bills on time? Have you filled for bankruptcy? Sometimes Three C’s are used:

Character, Capacity, Collateral

Business and Personal Finance Unit 2 Chapter 6 © 2007 Glencoe/McGraw-Hill

33Business and Personal Finance Unit 2 Chapter 6 © 2007 Glencoe/McGraw-Hill

One Is EnoughWhen you turn 18, you may start receiving applications for credit cards. Be a smart consumer and compare interest rates, annual fees, and any other fees. Decide which credit card best suits your needs and apply for that one. Toss any other applications you get into the trash.Why should you get the best (or lowest) interest rate for a credit card?

Credit ReportsLenders will review your credit history to find out if you have been a responsible user of credit in past.Your credit history is a score compiled into a:

Credit Rating:A measure of a person’s ability/willingness to

make credit payments on time. Lender has the right to deny loans based on credit history, score. Inadequate income or assets. Equal Credit Opportunity Act (ECOA):

Gives all credit applicants equal rights—disallows denial of credit due to age, gender, race, sexual orientation or handicap.

Your Credit ScoreYour credit report is examined through your FICO score (credit score).What is considered in the score?

Examines a payment history, amounts owed, length of credit history, new credit, types of credit used.

What does a High credit mean?You are an A+ borrower. You will get best interest rates,

low fees, good insurance rates, good looks with perspective employers.

Steps to improve your credit score:Check credit report, reduce debt, ensure timely

payments, apply for new accts only as needed, ensure responsibility in new credit endeavors—especially if you have errored in the past.

Understanding Credit ScoresExcellent Credit:

Credit Score above 800Very Good Credit:

Credit Score between 750 - 800Good Credit:

Credit Score between 700 – 750Fair Credit:

Credit Score between 650 – 700Bad Credit:

Credit Score between 600 – 650Very Bad Credit:

Credit Score below 600

Factors Negatively Impacting Credit Score

Applying for a credit card or other line of creditOpening a new loan accountPaying Bills lateFiling for personal bankruptcyHaving a high debt balanceHaving a high debt to credit ratio

If consumers default on loans—bank or lender strengthens ability to ensure repayment by damaging your credit score.

Your Credit ReportCan be obtained for free one time per year from each of 3 credit agencies

Equifax, Experian, TransUnionCan also obtain within 60 days of denial of credit

or employment.Will be shared with landlords, employers, lenders.Paid loans remain on report for 7 years.Negative information remains on report for 7 years.

It is the consumer’s responsibility to check for errors and follow the process to correct the errors on the report.

Ex: Inaccuracies, credit fraud, etc.

Strategies to Resolving Credit Problems

Know your rights!Truth in Lending Act of 1968

Call creditors, pay on time, close unnecessary accounts, notify card companies immediately when faced with payment problems.

Properly close credit card accountsObtain written notification.

Credit Repair through credit counselingConsumer Credit Counseling Services (CCCS)

Bankruptcy:Chapter 7 (10 years on credit report)Chapter 13 (7 years on credit report)

More on bankruptcy.

Types of CreditCredit Cards:

Type of credit that allows consumer to purchase goods/services and pay for them later. Creditor pays the merchant almost immediately.

Where do you get a credit card?Almost every bank, credit union and retail stores offer credit cards, through sponsoring lenders/financial institution. Ex: Microcenter CC = issued through Wells Fargo

Credit cards are both a great way to BUILD and RUIN your credit report.

How Credit Cards WorkWhat happens when you make a “charge?”

1. Consumer buys something on credit card. 2. Account is “charged” with purchase amount.3. Creditor issues merchant payment. 4. Creditor sends you a bill of all charges for the

billing period at the end of the month.5. You have a grace period of usually 30 days to

pay back creditor what you’ve spent.Types of Credit Cards:

Revolving Credit Cards:Terms of repayment, NET 30 (30 days)VISA & MASTER CARD

Travel/Entertainment/Membership Cards:Requires FULL Payment at end of month.American Express GREEN or GOLD card.

Advantages of Credit CardsConvenience of not having to carry cash.Ease in buying on the internet.Payment for emergencies.Short-term financingBuy today—pay when bill arrives.

Needed to pay for hotel/rental cards.Proper use can improve credit score.Ability to earn discounts through reward programs.

Disadvantages of Credit CardsThinking that it’s “free.”Potential hidden fees and surcharges.Potential damage to credit rating.Potentially high interest rates.Potential to create overwhelming debt that one cannot afford to repay.

Requires you to carefully review invoices.Must make payments on time (& in full if possible).

Garnishment(Court makes employer pay your debts with wages)

Reduces your spending power (less credit—less income to spend).

Using Credit CardsCash Advances:

Allows consumer to withdraw cash on credit card.APR usually at least 24%

Each card gives you a Credit Limit (Line of Credit):Amount the consumer is allowed to charge.

Should start out with a low limitCan establish credit history and learn how to use.

Grace Period: Time between the date on the card’s bill and date payment is

due. Late fee (approx. $35) assessed if payment date is missed.

Need to pay 2-3 days before due date. Minimum Amount Due:

Prorated portion of balance due each month.Finance Charge:

APR assessed on your unpaid balance each month. Can be increased if your bill is not paid after 45 days.

This is how cards make their money.Essential to know card Guidelines and Rules.

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Other Types of Credit/LoansInstallment Loans:

Equal monthly payments. Ex: Mortgages, student loans, auto loans, furniture loans. Usually in your best interest to prepay=reduce length/cost.

Check your amortization schedule. Home Equity Loan:

Consumer loan that allows you to borrow against the equity you own in your home. Bank puts a 2nd mortgage on your home.

Interest rates are usually low, but variable.Layaway:

Purchasing method that allows consumer to put product on hold by placing deposit on item and then paying balance off in small payments.

Ensures item will be in stock upon completion of payments. Ownership/Title:

Certificate that states your ownership of possession. Ex: Cars have titles, homes have deeds.

If you have loan on possession, bank will be listed as lien holder. You will not be able to claim sole ownership unless lien holder is

satisfied.

Your Credit Can Be at Risk!Identity TheftTax-Refund LoansHarassmentNot Protecting your personal PIN numberPayday loansCo-signing on loans for friends/relatives/others.Predatory LendingPhishing:Internet, email or telephone scams or hoaxes

Redlining

Consumer Responsibilities Only YOU can Protect Your Credit!

Saving Credit Card Receipts:Check against monthly statements/use for returns.

Managing your credit with spouse or co-signor?Who is responsible for payment?Who will pay in death or divorce?

Avoid identity theft or Credit Card Fraud:Don’t allow others to use your card.Know when to give out your personal ID (SS#/Acct.

#)Carefully read all financial

agreements/contracts/credit agreementsZero interest paymentsLow payment scheduleTransferring balances