1. Credit The Wonderful World of Credit
What is Credit? Credit is the privilege of using someone else’s money to purchase an item or service now and then pay for it later. Using credit means a transaction has occurred between a creditor and debtor. The creditor is the person or business that sells on credit or grants a loan. The debtor is the person or business that buys on credit or obtains a loan. Consumer Credit A consumer uses credit for expensive items, such as a home or car, and for inexpensive things like theatre tickets or DVDs. Vacations, investments, and paying off other debts can also be arranged on credit.
WHAT IS CREDIT?
Credit can be good or bad depending the the debtors use of it.
Positive uses of credit include using it to avoid draining savings or to start up a new business.
When individuals borrow beyond their ability to repay debt, financial difficulties occur.
Consumer Credit
Consumers should be aware of and weight the advantages and disadvantages of credit.
See “To Use or Not to Use Consumer Credit?” on page 469.

2. Chapter 15: Credit The Wonderful World of Credit
Consumer Credit Advantages of Consumer Credit Disadvantages of Consumer Credit Government Credit All three levels of government borrow money to provide goods and services to citizens. Canada Savings Bonds and Government of Canada Treasury Bills are two examples of the government using credit.
instant enjoyment
convenience
emergency needs
saving money
credit rating
monthly statement
credit costs
impulse buying
overbuying
financial difficulties
Consumer Credit
See Figure 15.1, “Advantages and Disadvantages of Using Consumer Credit”, on page 468.
Advantages of Credit
Instant enjoyment means buying the goods or services on credit and using it now and paying later.
Using credit is convenient as you do not need to carry cash and cheques while shopping or traveling.
Credit can come in very handy when there is an emergency and money is needed now.
Credit allows people to save money by taking advantage of sales.
Buying on credit is one way to establish a credit rating.
A credit rating is an indication of the level of risk that a consumer, business, or government will pose if credit is granted.
The monthly statement received from the creditor can help individuals budget and record spending.
Disadvantages of Credit
There are costs involved when buying on credit not fully present when using cash (losses passed on to consumers and interest charges).
With access to credit some consumers buy impulsively and do not comparison shop or check the details of the sale.
With access to credit some consumers overbuy, purchasing things they do not need or that they cannot afford.
Many consumers get themselves into financial difficulties by mismanagement of credit, basically spending more than they can afford.

3. Chapter 15: Credit The Wonderful World of Credit
Business Credit Businesses use long-term credit to purchase land, buildings, and equipment, and short-term credit to buy goods, raw materials, and supplies. Entrepreneurs start new businesses by using loans and credit. Advantages of Business Credit Disadvantages of Business Credit Why Business Grant Credit Financial institutions and retail businesses grant credit to consumers. Retailers offer credit to increase sales, attract customers, and to potentially collect interest charges.
finance major purchases
consolidate payments
use of corporate credit cards
overcome cash-flow shortages
Business Credit
Advantages of Business Credit:
Companies can borrow funds to finance major purchases such as buildings, land, equipment, etc.
Supplies are often purchased on credit as cost of delivered items is consolidated into one monthly payment thereby effectively using credit.
Corporate credit cards allow employees to make work-related purchased.
They usually keep receipts for expenses such as meals, gas, and travel and submit them periodically to the company.
When business experience cash-flow shortages due to the cyclical nature of the business credit can be used over these low revenue periods.
Disadvantages of Business Credit:
The interest charged on loans increases business costs.
When businesses default on loans assets may be seized, the company’s reputation is degraded, and the business may become insolvent or declare bankruptcy.
WHY BUSINESS GRANT CREDIT
Financial institutions grant credit in the form of loans, mortgages, and bank credit cards.
Many retailers offer store credit (credit cards) and credit accounts.
Credit is shown as accounts receivable in a business’s records.
Businesses grant credit by accepting universal credit cards, such as Visa and MasterCard.
Reliable business customers can receive goods and pay for it once a month and if terms are not meet interest charges will be incurred.
When business do not pay their accounts payable they may be subjected to the efforts of a collection agency hired by the business that they owe money to.
increased costs
defaulting on a loan

4. Chapter 15: Credit Types and Sources of Credit
The type of credit that people use depends on their needs, wants, goals, and purposes. The four common types of credit are credit cards, installment sales credit, loans, and mortgages. Credit Cards The average Canadian has at least three different credit cards. The three basic types of cards issued to consumers come from banks (the most popular), retailers, and travel and entertainment businesses. Bank-issued Credit Cards With a good credit rating, consumers can acquire bank-issued credit cards, such as a Visa and/or MasterCard. The credit limit on the card depends on the consumer’s credit rating. Businesses that allow consumers to pay with credit cards incur the cost of equipment, transaction fees, monthly statement charges, charge-back fees and customer disputes.
CREDIT CARDS
There are more than 600 different issuers of credit cards in Canada.
Except for retail charge cards, credit cards are universal, or multipurpose.
Businesses around the world accept major credit cards, thereby attracting customers and increasing sales.
Credit cards are like short-term loans and it is important to know the terms, conditions, and options.
Cards range from low interest rate to “gold” and “platinum” cards.
Some cards allow customers to collect points, such as Air Miles and AeroplanPlus.
Bank-issued Credit Cards
If the credit card balance is paid consistently each month no interest charges are incurred.
Interest is charged on all cash advances and is charged on purchases after the statement due date passes.
Advantages include:
Small and large business can set themselves up to accept credit card payments.
Ideal for web-based businesses.
Credit cards increase the probability and size of consumer purchases.
Payment speed is fast and businesses do not have the delays related to cheques or invoiced payments.
Payment is guaranteed; no bounced cheques.
Transaction fees are a percentage of the purchase price.
The money used to fund bank-issued cards comes form depositors’ savings at the institution.
Profit is made from the difference the card user pays and the amount that the financial institution pays the depositors.
Consumers benefit because these cards are widely accepted and they receive a monthly bill that lists purchases.

5. Chapter 15: Credit Types and Sources of Credit
Travel and Entertainment Cards Travel and entertainment cards are used to pay for luxury services and products, such as hotels, airline tickets, and so on. Retailer Credit Cards Retailers establish their own credit cards, or single-purpose cards, to avoid the charges and fees associated with universal card companies. Businesses that have their “own” card effectively lower costs and make money on the interest payments received.
Travel and Entertainment Cards
Examples include American Express, Diners Club International, and Discover.
Card users usually pay a yearly membership fee that is higher than bank-issued cards.
Some of these cards requires payment in full is made each month.
Retailer Credit Cards
Single-purpose cards can only be used at the issuing retail store(s).
The store can also provide their customers with credit specific deals, such as no interest for three months, and thereby be more competitive in the marketplace.
Disadvantages include the paperwork involves and the risk that customers may not pay and the outstanding debts would need to be collected; this can be costly and often impossible.
Retailers can enhance their card product by offering users special deals, bonuses, and point systems.

6. Chapter 15: Credit Types and Sources of Credit
Installment Sales Credit Installment sales credit is a credit plan that requires a down payment and fixed regular payments with finance charges added to the purchase price. This form of credit involves a contract that includes the terms of the purchase and payment, including finance charges. Installment credit is slightly more complicated than handing over a credit card to pay for something. The consumer must fill out an application, be approved for credit risk, and then sign a detailed sales contract for the purchase. The buyer takes possession of the product or service, but the ownership stays with the seller until the buyer makes full payment according to the contract.
Installment Sales Credit
Usually for expensive purchases such as furniture, appliances, or a vehicle.
The buyer usually make a down payment of at least 10 percent.
Payments, as per the contract, are made over a specified time period.

7. Chapter 15: Credit Types and Sources of Credit
Loans
Loans can be used to make a wide variety of purchases except real estate. Loans, with a variety of repayment options, can be obtained from most Canadian financial institutions.
Term Loans
A term loan is a form of borrowing in which the borrower agrees to make fixed payments over a set period of time or term.
A lease is an agreement to rent something for a set time and at an agreed price. It is an alternative to a term loan.
LOANS
Types of loans include term loans, demand loans, and student loans.
Term Loans
Usually one to five years, the term is the period of time over which a loan is to be repaid.
The amount repaid is the principal plus interest.
With a fixed-rate loan, the interest rate is set for the full term of the loan.
With a variable-rate loan, the interest rate changes based on the prime leading rate (Chapter 13).
A lease requires the making of regular payments over a fixed period of time but the borrower does not own the asset at the end of the lease.

8. Chapter 15: Credit Types and Sources of Credit
Demand Loans A demand loan is usually short-term with flexible terms of repayment. Repayment of the entire sum owing can be demanded by the lender at any time. Collateral—something of value that the lender can take and sell if the loan is not repaid—serves as security for the loan. Student Loans Guaranteed by the federal and provincial governments, student loans are available through most financial institutions. Student loans are usually interest-free until six months after graduation.
LOANS
Demand Loans
Demand loan borrowers usually have a strong relationship with the financial institution.
Personal examples of collateral include savings, real estate, jewellery, etc.
Business collateral could include factories, machinery, or other valuable assets.
Businesses can make regular payments or pay the amount in full at any time.
Student Loans
Applications are available at most guidance/student services at high schools, and at most colleges and universities.
Almost all full- and part-time students can apply if attending an approved institution and course.
If a student is living at home the family’s financial background determines if they qualify.

9. Chapter 15: Credit Types and Sources of Credit
Mortgage Loans A mortgage loan is a 10 to 25 year credit plan to purchase property. The property is pledged as collateral for the loan. A bank and buyer renegotiate the terms of the loan and the interest rates many times during the mortgage’s time frame due to varying interest rates.
Mortgage Loans
The mortgage itself is a legal document.
Mortgages come with options in relations to terms, interest rates, and length of time.
The terms of the mortgage are usually renegotiated over the life of the mortgage.

10. Chapter 15: Credit The Cost of Credit
Factors that affect the cost of credit include
principal borrowed
the term for repaying the loan
current interest rates
inflation and economic conditions
security or collateral
risk and credit rating
Principal and Term
Short-term loans usually have lower interest rates than long-term loans. Borrowing can cost less when it is over a shorter period of time, especially when extra payments are made.
Consumers should shop around for a loan, as institutions compete for your business and you may be able to negotiate a better deal than offered.
PRINCIPAL AND TERM
Sort-term loans rates are lower because institutions can better predict economic trends.
Long-term loan rates are usually higher as it is harder to predict economic conditions farther into the future.
See Table 15.1, “Cost of Borrowing $ for a Car”, on page 481.

11. Chapter 15: Credit The Cost of Credit
How to Calculate Simple Interest The formula for calculating simple interest is as follows: I (interest) = P (principal) x R (interest rate) x T (time) However, financial institutions do not calculate using this simple formula. Instead, they take into account amounts repaid during the loan, and charge interest only on the amount outstanding. From a financial institution’s perspective, the total cost of a loan is as follows: P (principal) + I (interest) Security or Collateral Often collateral is necessary to secure a loan. It reduces the risk to the lender as the asset can be sold if the borrower fails to repay the loan.
HOW TO CALCULATE SIMPLE INTEREST
Example: P ($3000) x R (0.07) x T (1 year) = I ($210)
SECURITY OR COLLATERAL
Collateral allows a borrower to loan a larger amount at a lower interest rate as compared to not having collateral.

12. Interest
Currently most cards go from 5.9% to 19.9% however, the maximum allowable is 47% in Canada

13. How much do you really pay making a minimum payment
Balance of $10000 with a 9% interest with a 1% minimum payment = minimum payment of $100 a month which means it will take just over 30 years to pay it back. This means that on $10,000 you paid $ 27,877 dollars in interest.

14. Chapter 15: Credit Credit Worthiness
Prior to granting credit, a lender looks at the potential borrower’s credit worthiness, a person’s ability to take on and repay debt. The three Cs of credit are character, capacity, and capital: qualities that a potential borrower must possess for a lender to consider when making a decision. Character Character refers to the borrower’s willingness, reliability, and trustworthiness to make a loan repayment. A lender needs to assess the character of the borrower to determine if the individual or business will repay the debt.
CHARACTER
Questions that a lender could ask an individual to determine character:
Do you pay your bills on time?
Have you used credit before?
How long have you lived at your current address?
Where do you work, and how long have you held your present job?
Questions that a lender could ask a business to determine character:
Does the business pay its bills on time?
Has the business used credit previously without problems?
How long has the business existed?
Are the owners reliable?
Answer to these questions seek to determine responsibility and stability.

15. Chapter 15: Credit Credit Worthiness
Capacity Capacity refers to the borrower’s ability to make payments on time and to pay the debt when it is due. Assessment of capacity by the lender determines if the individual or business can repay the debt. Capital Capital is the value of the borrower’s assets that could be used to repay debts. The lender makes an assessment of capital to know what the borrower has of value that could be sold if the individual or the business does not repay the debt.
CAPACITY
Questions that a lender could ask an individual to determine capacity:
Do you have a permanent job or a steady income?
How much do you earn?
Do you have any dependants?
What are your current living expenses?
How much money do you presently owe?
Questions that a lender could ask a business to determine capacity:
How much income is the business generating?
What are the business’s accounts payable?
What are the business’s current expenses?
Is the business growing?
CAPITAL
Questions that a lender could ask an individual to determine capital:
How much money do you have in a savings account?
What assets do you have and what is their value?
What investments do you have that could be used as collateral?
Do you own or rent your residence?
Questions that a lender could ask a business to determine capital:
What are the liquid assets available in cash, bank accounts, and accounts receivable?
What assets does the business own?
What investments does the business own?
Does the business own real estate?

16. Chapter 15: Credit Credit Worthiness
Credit Bureaus A credit bureau is a business that gathers credit information on borrowers and then sells it to credit grantors and lenders. Information is collected on both individuals and businesses for a period of seven years. After that, it is removed from their files. The three major credit bureaus in Canada are Equifax Canada, TransUnion of Canada, and Northern Credit Bureaus. Credit Rating A credit rating is an indication of the level of risk that a consumer, business, or government will pose if credit is granted.
CREDIT BUREAUS
Retail stores and financial institutions are the main customers of credit bureaus.
Information collected by the bureaus is similar because most national and international creditors are registered with all three.
Credit bureaus do not rate borrowers; they gather information on them and keep it on file for seven years.
Individuals and businesses that do not use credit (cash) do not establish a credit record.
Credit reports help businesses make better decisions.
Since lenders are able to make faster decisions regarding granting credit, consumers benefit.
CREDIT RATING
Credit rating is a measure of credit worthiness.
A good credit rating results when a borrower:
Carries no outstanding balance on credit cards
Pays all bills on time
Keeps debt to a reasonable level; based on income and assets
Has taken out a loan, meeting all payment obligations on time
A lower credit rating results when a borrower:
Pays bills late
Has too many credit cards
Owes large sums of money as well as a mortgage
Applies for many loans or credit cards in a short time period
Has declared bankruptcy

17. Chapter 15: Credit Credit Worthiness
Getting a Credit History
Students usually do not have any credit history, which makes it difficult for them to receive a loan for education, for transportation, or to start a business. Ways for students to achieve worthiness in lender’s eyes include
obtaining good marks and attending school
getting and keeping a job
buying something on credit and paying it off before interest is charged
taking out a small loan
having someone, such as a family member or close friend with a good credit rating, co-sign a loan
Checking Your Credit File
Once a credit rating is established, it is a good idea to check it periodically by contacting one of the credit bureau(s).
GETTING A CREDIT HISTORY
Without a credit history, lenders cannot rate a student’s risk or credit worthiness.
Good marks and attendance indicated positive behaviour and the likelihood that the individual will succeed in future education and in the job market.
Repaying a small loan on schedule helps to establish a good credit rating.
Co-sign means that a second person signs a repayment contract as a guarantee that payments will be made.
If the borrower does not repay the loan, the co-signer will be left responsible for the debt.
CHECKING YOUR CREDIT FILE
Borrowers request a copy of their credit rating if they are unsure of their rating status, have been denied credit (perhaps information is incorrect), or plan to apply for a large amount of credit.
Individuals and businesses can obtain a copy of their credit rating from Equifax, TransUnion, or Northern Credit Bureaus is person, by mail, by fax, or online.
The cost to obtain a report is minimal.

18. Chapter 15: Credit Credit Worthiness
Credit Crisis
It is important to re-examine spending habits and get out of debt when in crisis. Signs of credit crisis include
consistently unable to pay off your credit cards
using cash advances for everyday living expenses
not knowing how much debt you have
seeming to always be in debt
Getting out of Debt
The steps towards getting out of debt include
contact and explain difficulties to creditors
be honest and realistic when working with creditors on a plan
pay a portion of overdue payments
put away credit cards
seek help from credit counselling services
CREDIT CRISIS
Credit crisis is not uncommon.
Getting out of Debt
When individual and businesses experience a credit crisis they should not panic nor should they avoid their creditors.
Spending habits, financial goals, and lifestyle need to be re-accessed when a crisis occurs.
A consolidation loan, is a consumer loan (often with lower interest rates) that combines all of the borrower’s debts into one more manageable loan.
Credit counselling services are not-for-profit consumer debt counselling services that provide unbiased assistance for individuals and families experiencing money and credit problems.
Credit counsellors discuss options and help to develop a course of action to get out of debt.
Counsellers can help with budgets and can contact creditors to arrange debt-management plans and reduced payments.

19. Calculating Interest Calculation Of The Finance Charge
Because there can be a significant difference in the total amount of finance charges among various cards, it is important to know how the interest rate is calculated. The credit card company will use one of three methods:
Average Daily Balance Method
This is the most commonly used method. You are given credit for your payment from the day the credit card issuer receives it and the interest in calculated on the basis of the average amount owed during the previous month.

20. Calculating Interest Adjusted Balance Method
This method is the most beneficial to the consumer and produces the lowest finance charges. The balance is calculated by subtracting the payments and any credits from the balance you owe at the end of the previous billing period.
Previous Balance Method 
This is the most expensive method. The finance charge is calculated on the balance owed at the end of the previous billing cycle. Payments, credits and new purchases made in the current billing cycle are not included.
As you evaluate new credit card offers, look for the best deal for your current situation. As your financial circumstances improve, you may qualify for more favorable rates.

21. Credit Availability
Your credit availability will depend on the following considerations:
Age. You must be 18 to obtain a credit card (unless you have a cosigner).
Income. You must have an income or assets.
Amount. The amount must be realistic, based on your income and any credit you already have.
Purpose. It should be for a good reason, such as a student loan.