2Chapter 11.1 Understanding Credit ObjectivesExplain basic principles of credit;Describe types of credit; andAnalyze the benefits, costs, and drawbacks of using credit.
3The Meaning of CreditCredit – is the supplying of money, goods, or services at present in exchange for the promise of future paymentCreditor – business or organization that extends the creditPrincipal – the original amount borrowed
4Credit Benefits All:Buyer – buys the itemSeller – sells the itemBank – makes a profit from interest
5Types of CreditCash Credit – take out a loan and receive cashSales Credit – buy now pay laterSecured Credit – backed by a pledge of property, something of value as assurance that the loan will be repaidSecurity Interest – when the lender can take property if the loan is not repaidCollateral – the property that is pledged to guarantee repayment
6Types of Credit Continued Closed-ended Credit – a one-time extension of credit for a specific amount and time periodOpen-end Credit (Line of Credit) – can be used repeatedly
7Types of Credit Continued Single- Payment – the entire amount due in a single paymentInstallments – a set portion of the loan amount that the borrower must pay at regularly scheduled intervalsPayment Schedule – specifies the dates on which installment payments are due and the amount of each installment
8Pros and Cons of CreditPros of Using CreditTemporary Expansion of Income – allows you to use goods and services before you’ve paid for them.Convenience – making large purchases without carrying cash, also refunds on returned items are usually easierFinancial Responsibility – creating good credit provides proof to others of your financial responsibility
9Pros and Cons of Credit Continued Costs of Using CreditFinance Charges – total cost of using credit (interest and fees)Increased Cost of Merchandise – because retailers must pay banks to collect on their credit sales therefore, must offset that cost.Opportunity Cost – are needs and wants that they must give up because of the expense of paying back borrowed money + interests + fees.
10Pros and Cons of Credit Continued Cons of Using CreditSecurity Concerns – taking precautions against stolen cardsImpulse Buying – more likely to buy items on the spur of the moment without careful considerationOverspending – spending more than you can affordReclaimed Merchandise – the merchant could take items that you fail to pay for back
11Deciding When to Use Credit Alternatives to Using CreditPaying by cash or checkUse a prepaid card or debit
12Chapter 11.2 Qualifying for Credit ObjectivesAnalyze factors that affect the ability to get credit;Explain the significance of credit reports; andDescribe how to establish and maintain a good credit history.
13What Lenders to Consider The Three C’s of CreditCharacter – a person’s reputationsCapacity – a person’s earning power and ability to pay debts from regular incomeCapital – items owned, or assets
14 Credit History– pattern of past behavior in regard to repaying debt.
15The Credit Application EmploymentResidenceHome Ownership – Rent / own a home. Home owner may be more permanentMonthly Housing Cost – if there enough money left to pay billsCredit References – checking if you have a good credit history with other businessesCollateral – property that you could use to secure the loanBank References – checking how much you have in accounts
16Equal Credit Opportunity Act – a federal law ensuring that all consumers are given an equal chance to obtain credit.
17Credit Reporting and Rating Credit Bureau (Credit Reporting Agency) – a firm that collects information about the creditworthiness of consumersCredit Report – a record of particular consumer’s transactions and payment patternsCredit Rating – an evaluation of a consumers credit history
18Credit Reporting and Rating Continued Credit Score – a numerical rating, based on credit report information that represents a person’s level of creditworthinessFair Credit Reporting Act – assures a consumer’s right to access his or her credit file and dispute incorrect informationYou should check your credit report once a yearInformation from your credit file may be given only to those who have a legitimate need for it
19Establishing and Maintaining Credit Step 1 Opening a checking and savings accountStep 2 Put a utility bill in your name and pay it regularlyStep 3 Apply for a credit card from a local store and pay bills on time
20Establishing and Maintaining Credit Cosigner – a person with a strong established credit history who signs the credit application and contract along with the borrowerSecured Credit Card – one that requires you to keep a savings account as securityA disadvantage is that your money is tied up and can’t be used for other purposes
21Chapter 11.3 Managing Credit Cards ObjectivesIdentify sources and types of credit cards;Evaluate credit card terms and conditions;Give guidelines for using credit cards wisely; andExplain how to resolve credit card billing problems.
22Types of Credit CardsPrivate Label Cards – can be used only at a single retailerGeneral Purpose Cards (bank card or major credit card) – can be used at millions of different business across the country and around the world
23Types of Credit Cards Continued Revolving Credit Cards – has payment options: pay in full, only a minimum payment, any amount in betweenCharge Card – charge must be paid in full each month
24Credit Card Variations Prestige / Status Cards – generally have higher annual fee, highly promoted to consumers with established creditCo-branded Cards – carry the name of not only a card network and possibly a bank but also another company
25Credit Card Variations Continued Affinity Cards – carries the name of a non-profit or charitable organizationSmart Card – has a computer chip used for online shopping
26Comparing Credit Cards Terms Annual FeeAnnual Percentage Rate (APR) – is the annual rate of interest that is charged for using creditWhether the APR may changeVariable Rate – means the APR can go up or down depending on economic factorsTeaser Rate – a low introductory rate that is in effect for only a limited time.
27Comparing Credit Cards Terms Continued Computation Method – agreement specifies how finance charges are computedMinimum PaymentGrace Period – period of time during which the balance may be paid in full to avoid finance chargesMinimum Finance Charge
28Comparing Credit Cards Terms Continued Other Fees – Late payments, cash advances, credit limit, & returned checksCredit Limit – is the maximum amount of credit that the creditor will extend to the borrowerSpecial Features and Services – discounts, frequent flyer miles, insurance, etc…
29Finance Charge Computation Methods (pg. 274) Previous BalanceAdjusted BalanceAverage Daily Balance (excluding new purchases)Average Daily Balance (including new purchases)Two-Cycle Average Daily Balance
30Truth in Lending Act – requires creditors to Truth in Lending Act – requires creditors to adequately inform consumers about credit terms and costs.Lenders must disclose specific information such as APR, variable rates, & fees.They should be clear and easy to read.
31Using Credit Cards Wisely Remember that your credit limit is a maximum, not a goal.Save credit card receipts.Set your own limit for how much you want to charge each month.Try to pay the full balance each month to avoid finance charges.If you can’t pay full amount the pay your largest amount that you can.Pay bills on time.
32Safeguarding Your Card Credit Card Fraud – Unauthorized use of credit cards or account numbers.Put in safe placeKeep it in your sightDon’t leave without itKeep records privateConsumer Credit Protection Act – says the maximum amount for which you may be held liable if someone uses the card illegally is $50
33Reviewing the Monthly Statements Online accessCheck the list of transactionsVerify personal informationPay attention to fees
34Resolving Billing Problems Fair Credit Billing Act – outlines procedures for settling credit card billing disputes.Must write a letter, sent within 60 daysName, account number, description, copiesUse certified mail and get receiptThey should respond in 30 days and resolve it in 90 daysThey will investigateCan withhold payment for disputed amount but are required to pay all other expenses.If error is confirmed, creditor pays full disputed amount plus all additional fees
35Chapter 11.4 Taking Out a Loan ObjectivesDiscuss sources and types of loans;Explain provisions that may be found in loan contracts; andDescribe the loan process from application to payment.
36Sources & Types of Loans Loans from Financial InstitutionsOffer a variety of loans; interest rate & other terms depend on type of loanHome Loans – Closed-end installment loans; home serves as security for loan; term is usually 15, 20, 30 years
37Loans from Financial Institutions Continued Home Equity Loan – closed or open-end loans, used for a variety of purposes; available whenever homeowner needs/wants to use it after building equityHome Improvement Loan – repair or improve home; increase it’s value; closed-end loan; secured by home; five-year term usuallyVehicle Loan – purchase a new or used vehicle; closed-end; three to five years
38Loans from Financial Institutions Continued Personal line of Credit – open-end unsecured loan; consumer can draw upon it when needed up to a preset limitEducation or Student Loans – pay for higher education, low interest rates, flexible repayment schedule
39Loans from Consumer Finance Companies -businesses that specialize in making small or personal loansGive credit to those who can not get credit elsewherenegative credit historylow incomeminimal assets
40Loans from Consumer Finance Companies Continued Higher interest rateThey borrow the money and pay interestCosts include: credit investigation, record keeping, small loans so they can not absorb costs like banksGreater credit risk – higher collection costs & bad debts
41“Payday” Loans-cash advance loansWrite a personal check for amount you want to borrowGives the borrower the amount minus fees until borrower’s next pay dayFees = a percentage or fee for every $50 or $100 loanedAPR extremely highCreates a cycle of debt difficult to break
42Insurance Policy Loans Borrow against the amount paid in premiumsNo credit investigationPolicy is the securityInterest rate lower than bank rates
43Insurance Policy Loans Continued DrawbacksPays a benefit to survivors in event of a death, if an outstanding loan exists, then company will deduct any amount still owed before paying benefitPay back loan, you might only be charged for interest
44Private Loans– borrow from family or friendGuidelines to help pay backKeep loan smallInterest rate?Payment planSpecific about terms-get in writingPay promptlyGet a signed receipt
45Loans from Other sources Credit cardPawnbroker – trade a valuable item for cash; holds item for 30 days; then you buy back your item at higher price then amount borrowedLoan sharks – avoid dealing with unlicensed lenders who operate illegally and charge excessive interest
46Loan Contract Provisions – shop around; look at APR, payment due dates, charged for penalty if you pay back the loan ahead of schedule; down paymentBalloon Payment Clause – final payment that is much larger than the other installmentsAcceleration Clause – gives the seller the right to declare the whole balance due if the buyer misses even one installment paymentAdd-On Clause – allows additional purchases to be added to an installment contract
47Getting the LoanApply by phone, online, or in personProvide info about income, employment history, residence, and credit historyRun a credit checkSign the loan contractCredit life insurance – optional
48Getting the Loan Continued Right of rescission – right to cancel the loan within 3 business days if you are using your home as security; must give notice in writingLoan contract outlines payment schedule-pay installments, online, automatic deductions from bank account; use payment booklet
49Chapter 11.5 Handling Debt Problems ObjectivesAnalyze the consequences of excess debt;Identify warning signs of excess debt; andDescribe assistance and remedies for debt problems.
50Dangers of Excess DebtInability to keep up with normal expenses from one paycheck to the next.Getting caught in a cycle of taking on new debt to pay off old debt.Stress over constant financial worries.Serious damage to one’s credit history.Inability to save or invest sufficiently to reach financial goals.
51Debt Collection Methods Delinquent – payments are overdue.Defaults – failure to fulfill the obligations of the loan, and a warning that the creditor is taking more aggressive actions toward collecting the debt.Repossession – taking away property due to failure to make loan or credit payments (car)Shut-offs – discontinue providing the service (electricity)
52Debt Collection Methods Continued Collection Agencies – a business that collects unpaid debt for others.This will result in seriously lowering your credit rating.Agencies get a high incentive for being relentless and aggressive in their collection tactics.Fair Debt collection Practices Act – protects consumers against abusive practices of debt collectors.
53Debt Collection Methods Continued Judgments – a court ruling that says the debt must be paidLiens – a claim upon property to satisfy a debt.Put on public recordAppear on the debtor’s credit historyLower credit ratingGarnishment – the legal withholding of a specified sum from a person’s wages in order to collect a debt
54Avoiding Excess DebtSet reasonable limits on debtStay within those limitsSet aside money for emergencies
55Warning SignsReaching a credit limit on most credit cardsSkipping payments on some bills in order to pay othersUsing cash advances on one credit card to pay off anotherUsing credit cards for day-to-day purchases
56Climbing Out of DebtWorkings with Creditors – letting them know that you’re struggling and arranging mutual solutionsSelf-help Measures – making paying off debt your top priorityCredit Counseling – guidance provided by trained people who help consumers learn to live within their meansDebt Consolidation Loans – combines all existing debt into a new loan to pay off all previous creditors
57Bankruptcy: A Last Resort Bankruptcy – legal relief from repaying certain debt, most negative information possible on a credit report, and last 7-10 years.Types:Chapter 7 – sale of all the debtor’s property except that related to continuing employment.Chapter 13 – debtor proposes a plan which must be approved and supervised by the court
58Rebuilding CreditTakes timeStarting new credit habitsAvoid high balances on credit