1. LENDING
Banking & Finance

3. Activity: Small Group Discussion 3 minutes
What institutions are responsible for making loans?
How do loans benefit a financial institution?
What are the risks involved in lending money?
Prepare to share your responses
with the class

4. Loan Secured Loan Unsecured Loan Collateral
Word Study
Loan Secured Loan Unsecured Loan Collateral

6. Loans Describe the different types of loans.
Explain the types of financing assistance provided to businesses.

7. Loan Characteristics What’s a Loan? Characteristics
money temporarily transferred to a borrower in exchange for repayment and interest
Principal: amount a bank loans to a customer
Why do individuals and businesses borrow money?
Loan Policy
Consumer and Commercial
Open and Closed
Secured and Unsecured

8. Any lending institution must balance the need to make money with the risk involved.

9. Loan Policy (followed to keep things in balance)
Portfolio mix: selecting loans from different sectors
Rate of interest: interest earned on loans relative to collection costs for the loans
Risk diversification: balance between safe and risky loans
Certain guidelines are
included in these policies:

10. Loan Policy (developed by the bank’s loan committee)
Reviews loan policy on an ongoing basis;
Explores the development of new loan products;
Looks for trends that will affect profitability or exposure to risk; and
Makes suggestions for changes to the policy (once a year)

11. The first characteristic used to classify loans is based on who borrows the money.
Consumer Loan
Commercial Loan
When an individual borrows money for his or her own use.
Personal, family, household needs
When a company borrows money.
Equipment, machinery, or inventory

12. Overview of Commercial Loan Products
Type of Loan
Uses
Acquisition
Purchase property or another company
Acquisition and development
Purchase and improve property
Asset-based
For any reason; collateral is held
Bridge
Temporary funds to use before long-term financing is acquired
Construction
Building things such as factories, retail stores, and office buildings
Construction improvement and rehab
Purchase an existing property that is then repaired and/or remodeled
Development
Property developers improve a property, such as adding new houses to a subdivision
Refinancing
Pay off debt
Small Business Administration (SBA)
Help small businesses get started

13. The second characteristic used to classify loans is based on repayment of the loan.
Open-ended Loan
Closed-end loan
Does not have to be paid in full by a specific date
Example: credit card
Must be paid in full on a specific date
Example: installment loan (for a large amount of money, repaid in smaller amounts over specified period of time)

14. Security means safety. Secured Loan Unsecured Loan
Backed by borrower’s property (collateral)
Example: car loan
Not backed by collateral
aka signature loan
Why?
Interest rate usually higher
Payment late? Add’l fees applied.
Bank can sue borrower

15. Financial Assistance to Businesses
Small Business Administration (SBA)
Export-Import Bank of the United States
Created in 1953 as an independent agency of the federal gov’t
Purpose to help Americans start and grow businesses
Much help in form of loans
Ex-Im Bank
Helps businesses export American goods and services to foreign countries
Created by presidential decree in 1934
Changes due to increased globalization

16. Financial Assistance to Businesses
World Bank Group (WBG)
Farm Service Agency (FSA)
Provides financial and logistical support to commercial farms
Part of US Department of Agriculture (USDA)
Makes loans and provides guaranties for others
USDA does not make loans, but makes grants
Loans and grants easing poverty around the world

17. Checkpoint 8.1
What is a lending institution balancing when it makes a loan? Name 2 things.
List the types of commercial loans.
A credit card is considered what type of loan? Why?
Why is collateral important to the bank when granting a loan to customers?
Why is an unsecured loan also known as a signature loan?

18. Word Study Equity Mortgage
Bellringer
Word Study Equity Mortgage

19. Activity
Make a list of things that affect the interest rate of a loan.
Prepare to share your ideas with the class.

20. Real Estate Loans Describe the characteristics of a mortgage loan.
Explain a home-equity loan.

21. Mortgage Loans
Real estate: section of land, air above it, ground itself, and any buildings on the land
Mortgage loan: made to purchase real estate
Secured loan. Why?

22. Government-Backed Mortgage Programs
Federal Housing Administration (FHA) guarantees home loans with down payments of 3% or less.
Veteran’s Administration (VA) provides loan guarantees to lenders that make loans to qualifying veterans.
Ginnie Mae (gov’t-owned corporation that backs loans made by FHA and VA) puts together a group of FHA loans
Sells bonds guaranteed by US gov’t (mortgage-backed securities—MBSs)

23. Government-Backed Mortgage Programs
Fannie Mae and Freddie Mac are government-sponsored enterprises (GSEs)
public interest is in increasing homeownership and affordable rental housing
Chartered and supported by the gov’t to promote a public interest
Publicly traded. . . Meaning what?
Not backed by government

24. Nature of Mortgage Loans
Mortgage Interest Rates
Fixed-rate: rate stays the same for entire term of loan
Adjustable-rate (ARM): rate may change over the life of loan
Look for a cap: identifies max increase that can apply
Term: number of years loan will exist
15 and 30-year
Closing costs: fees applied when mortgage is signed.

25. Nature of Mortgage Loans
Loan Term
Number of Payments
Payment per Month
Interest Paid Over the Course of the loan
15 years
180
$1,581.59
$84,686.20
30 years
360
$1,073.64
$186,510.40
Comparing Loan Terms for a $200,000 Mortgage at 5% Interest.

26. Activity Go to Autotrader.com
Perform the same formula on previous slide to the car you would like to purchase
Calculate the difference between a 2- and a 6-year loan on the car
Submit.

27. Bellringer
Why is the interest rate for an unsecured loan often higher than the interest rate for a secure loan?

28. Applying for a Mortgage
Potential buyer must have finances in order
Fill out mortgage application
Provide info and supporting documents
Lender will order credit report
Lender provides good faith estimate
Loan goes to underwriter (approval or denial)

29. Mortgage-Related Laws
Real estate taxes and homeowners insurance must be held in an escrow account set up by the lender.
Escrow account: account in the name of the borrower and is separate from the mortgage account.
Buyers who finance more than 80% are required to pay private mortgage insurance (PMI)
PMI: insurance policy that pays the lender if the borrower defaults

30. Small Group Activity
In your group, perform research on the following mortgage-related laws:
Jacks: Truth-in-Lending Act
Queens: Community Reinvestment Act
Kings: Home Mortgage Disclosure Act
Aces: Equal Credit Opportunity Act
Each group member must report 1 fact on the assigned act.

31. Bellringer
Explain the difference between a fixed rate mortgage and an adjustable rate mortgage.

32. Equity Loans
Equity: difference between the real estate’s value and the amount owed for the real estate
Belongs to the owner
If owner sells, they pay off the loan first.
Amount of money left is the equity
Equity loan: temporarily transfers cash to the borrower

33. Relationship Between Equity and Value

34. Equity Loan (second mortgage) Characteristics
Consumer and Commercial
Consumer: pay off credit cards, improve real estate, or pay education costs
Commercial: purchase add’l equipment or inventory, repair or improve equipment, or expand the business
Interest Rates
Higher than a mortgage interest rate
Same property being used to secure 2 loans
1st loan (mortgage) paid before 2nd loan (equity loan)
Term and Fees
5 to 30 years

35. Checkpoint 8.2 Why is a mortgage a secured loan?
What public interest are Fannie Mae and Freddie Mac chartered to promote?
How does a fixed rate loan benefit the lender?
How do you calculate the owner’s equity if he or she has a mortgage loan?
Why would a consumer use a home-equity loan to pay off credit card debt?

36. Granting Loans Describe the five C’s of credit
Explain how commercial loans are evaluated
Describe the steps in applying for a loan

37. Paired Activity Break up into pairs.
Role-play a customer applying for a loan, with one person acting as the loan officer, and the other person acting as the individual trying to apply for a loan.
Prepare to report.

38. Word Study
Predatory Lending

39. Individual Activity
Research the factors that negatively affect an individual’s credit score.
What things should students refrain from doing if they want a good credit score?
Do any of these things matter more than the others?
Start 1st period here

40. (assessment of a borrower’s ability to repay a loan)
Creditworthiness
(assessment of a borrower’s ability to repay a loan)

41. Credit Scores Measure of risk based on the borrower’s credit history
Risk: likelihood of financial loss caused by a borrower failing to repay the principal and interest specified in a loan
Higher is better
Credit bureau: company that gathers, analyzes, and summarizes credit-related info on consumers
Equifax, Experian, and TransUnion
Free report every 12 months
FICO score: credit rating used by lenders to predict applicant’s ability to repay
Ranges from

43. Credit for Commercial Loans
To assess the risk involved with commercial loans, lenders look at the company or organization’s balance sheet, cash flow, and collateral.
Commercial debt ratios are another factor in determining approval
Debt ratios compare debt to income or assets

44. Commercial Debt Ratios
Equation
Definition
Example
Debt
Debt / income or
Liability / assets
Compares what is owed to what is owned
[$100,000/$500,000] X 100 = Ratio of 20%
Debt Service coverage
Debt payment / income
Compares the amount needed to pay on a debt rather than the whole debt with income
[$2,500/$750,000] X 100 = Ratio of 50%
Loan-to-value
Mortgage amount / appraised value of property
Compares the amount financed to the value of a given property. It relates to equity
[$250,000/$750,000] X 100 = Ratio of 33%

45. Credit-Application Process
Applying
Docu-menting
Submitting
Under-writing
Approval
Closing
Funding

46. Bellringer
If a home’s value is $150,000 and the balance of the mortgage loan is $80,000, how much equity does the owner have?

47. Subprime Loans
Loan with fees and interest rates that are higher than the rates given to a person who meets all of the underwriting criteria
The Crisis of Credit Visualized
Begin 1st period here6

48. Checkpoint 8.3 List the five C’s of credit.
What are the three things that would show an applicant has good character?
How does a FICO score affect a loan application?
When considering the risk posed by a commercial loan, what three things do lenders look at?
Why would an applicant ask someone to cosign a loan application?

49. Profits and Losses
Distinguish between a loan’s nominal annual rate, annual percentage rate, and periodic rate.
Use three methods to calculate finance charges.
Describe how bankruptcy affects lenders.

50. Interest Rates
Lenders are required to disclose the nominal rate, annual percentage rate (APR), and the periodic rate for every loan made
Nominal annual rate: identifies loan’s annual interest rate w/out cost of fees or compound interest
Annual percentage rate (APR): annual cost of a loan, including all interest
Periodic interest rate: interest rate the lender applies to a loan’s outstanding balance to calculate finance charge each billing period.

51. Calculating Finance Charges
Each month, most credit cardholders pay a finance charge
Cost of carrying the debt
Includes interest and fees
Transaction fees
Account-maintenance fees
Late fees

52. Calculating Finance Charges
Average daily balance method: uses the card’s beginning daily balance (most common)
Previous balance method: uses the amount the customer owed at the end of the previous billing period to calculate the interest owed for the current month
Adjusted balance method: uses the balance from the previous month and subtracting payments made during the current period (most favorable)

53. Calculating Finance Charges: Average Daily Balance Method
Step 1: Subtract any payments made to the account the day from the beginning balance. $ (balance) - $20.00 (payment) = $ Step 2: Total the daily balances for the billing period. $ (balance on day 1) + $11, (sum of balances for each of the following 29 days) = $11, Step 3: Divide the total by the number of days in the billing period to give the average daily balance. $11, (total of daily balances)/30 (days in the billing period) = $ (average daily balance) Step 4: Multiply the average daily balance by the annual percentage rate multiplied by the number of days in the billing cycle and divide by the number of days in the year. $ (average daily balance) x 12% (12% annual percentage rate) x 30 (number of days in the billing cycle)/ 365 = $3.75 (finance charges)

54. Calculating Finance Charges: Previous Balance Method
Multiply the balance a the end of the previous billing period by the periodic interest rate $ (previous month’s balance) x .01% (periodic interest rate: 12% APR / 12 months) = $3.82

55. Calculating Finance Charges: Adjusted Balance Method
Step 1: Total the payments made in the current period. $20 (payment made on day 5 of the billing cycle) + $50 (payment made on day 25 of the billing cycle) = $75 Step 2: Subtract the result from the previous month’s balance. $ (previous month’s balance) - $75 (total of payments made) = $ Step 3: Multiply the result by the periodic interest rate to get the finance charges.. $ x .01% (periodic interest rate: 12% APR / 12 months) = $3.08

56. Loans in Default
Borrower’s failure to meet the terms of a loan agreement
Failure to make payment when due
lender can sue, take possession
Expenses involved. Like what?

57. Bankruptcy
A legal procedure that enables individuals or companies to eliminate or repay some or all debt under the guidance of federal bankruptcy courts
2nd chance
On credit record for 10 years

58. Bankruptcy Liquidation Reorganization
Process of converting property into cash
Chapter 7: releases from person responsibility of debt
Property sold and funds given to lenders
Process of creating a repayment plan to repay debts without liquidating property (businesses can do this too)
Chapter 11: company
Chapter 13: individual

59. Checkpoint 8.4
What is the difference between the nominal annual rate and the APR?
What is the most common method used to calculate finance charges?
Which method used to calculate finance charges is the most favorable for borrowers?
What is the most common reason for loans to go into default?
Why is liquidation a possibility when dealing with bankruptcy?

60. Individual Activity
Using the Internet, find at least 3 news broadcasts and 3 articles about the controversy surrounding Fannie Mae and Freddie Mac. (provide URLs)
Write a 1-page report in which you discuss the purposes and responsibilities of these entities, and how they were fundamentally changed during the Great Recession of the 21st century.