Credit and BorrowingCredit and Borrowing

BHS

Senior Seminar

What Is Credit? The ability to borrow money.

Why Credit?Credit makes the world go ‘round… Consumer

spending fuels 70% of

economic growth

Sources of CreditSources of Credit

BanksBanks Credit UnionsCredit Unions Department StoresDepartment Stores Automobile DealersAutomobile Dealers Oil Companies (for gas stations)Oil Companies (for gas stations) Federal Government (for student loans)Federal Government (for student loans) Others…Others…

Types of CreditTypes of Credit

Installment CreditInstallment Credit Fixed paymentsFixed payments Set period of time to Set period of time to

repayrepay Set or varying interest Set or varying interest

ratesrates

Examples: car loans, Examples: car loans, home loans (mortgage)home loans (mortgage)

Revolving CreditRevolving Credit No stated payoff timeNo stated payoff time Limit to creditLimit to credit Minimum monthly Minimum monthly

paymentspayments Interest rates vary or Interest rates vary or

notnot Finance chargesFinance charges Example: credit cards Example: credit cards

Assume you don’t have the money (in cash)…Assume you don’t have the money (in cash)…Top 10 Questions to AskTop 10 Questions to Ask… before signing on the dotted line… before signing on the dotted line

1.1. Do I really need this item right now, or can I wait?Do I really need this item right now, or can I wait?

2.2. Can I qualify for credit?Can I qualify for credit?

3.3. What is the interest rate (APR)?What is the interest rate (APR)?

4.4. Are there additional fees?Are there additional fees?

5.5. How much is the monthly payment, and when is it How much is the monthly payment, and when is it due?due?

Top 10 Questions to Ask, Top 10 Questions to Ask, cont.cont.… before signing on the dotted line… before signing on the dotted line

6.6. Can I afford to pay the monthly payments?Can I afford to pay the monthly payments?

7.7. What will happen if I don’t make the payments What will happen if I don’t make the payments on time?on time?

8.8. What will be the extra cost of using credit?What will be the extra cost of using credit?

9.9. What will I have to give up to pay for it?What will I have to give up to pay for it?

10.10. All things considered, is using credit worth it for All things considered, is using credit worth it for this purchase?this purchase?

Related questions banks/lenders consider How much money do you make (income)?

How long have you lived where you live?

How long have you worked for the same company?

How much are your assets worth (car, home, etc.)

How much money do you have in savings?

Do you pay your bills on time?

How much debt do you have elsewhere?

The Language of CreditThe Language of Credit Credit: amount of money or something of value that

is loaned on trust with the expectation it will be repaid later to lender(s)

Types of Credit Borrow up to a predetermined limit (e.g., credit

card) Borrow cash to be repaid by a specific date Borrow money for a major purchase to be repaid

in regular payments over time, typically monthly (e.g., car loan, home mortgage)

The Language of CreditThe Language of Credit Debt is the entire amount of money you owe to

lenders. APR (Annual Percentage Rate) is the total cost to use

credit in a year. Term is how long you have to repay a loan, often

expressed in months. Fees are charged to use credit. Examples:

Annual Credit Card Fee, Loan Origination Fee, Over-the-Limit Fee, Late Fees

The Language of CreditThe Language of Credit

Universal Default allows a credit card company to increase your interest rate if you make just one late payment.

Bankruptcy is a legal process to get out of debt when you can no longer make all your required payments.

The 4(or 5) “The 4(or 5) “CCs” of Credits” of Credit CollateralCollateral: items of worth that consumers take loans for: items of worth that consumers take loans for

House, car, recreational vehiclesHouse, car, recreational vehicles

CapitalCapital: you have assets: you have assets

you currently have items that you could sell if you needed moneyyou currently have items that you could sell if you needed money

CapacityCapacity: your ability to repay: your ability to repay

Income and employment historyIncome and employment history

Debt to income ratioDebt to income ratio

CharacterCharacter: if you’re trustworthy: if you’re trustworthy

What have you demonstrated by your repayment historyWhat have you demonstrated by your repayment history

ConditionsConditions: verifying income : verifying income Pay stub, W-2, tax returnPay stub, W-2, tax return

The Language of CreditThe Language of Credit Credit History is a record of your behavior

related to borrowing and repaying loans. Credit Report is a detailed record of your

personal credit and financial transactions. Credit Score is a rating used by credit reporting

companies to help lenders decide whether and/or how much credit can be extended to a borrower (“creditworthiness”).

The Cost of Using CreditThe Cost of Using CreditInterest Rate = 24%Interest Rate = 24%

Payment = 4% of Current BalancePayment = 4% of Current Balance

BALANCEBALANCE TIME TO TIME TO PAY OFFPAY OFF

INTEREST INTEREST CHARGEDCHARGED

TOTAL TOTAL COSTCOST

$2,000$2,000 11 YEARS11 YEARS6 MONTHS6 MONTHS $1,850$1,850 $3,850$3,850

$6,000$6,000 16 YEARS16 YEARS1 MONTH1 MONTH $5,850$5,850 $11,850$11,850

$10,000$10,000 18 YEARS18 YEARS2 MONTHS2 MONTHS $9,850$9,850 $19,850$19,850

Examples: When you buy “stuff”Examples: When you buy “stuff”

In fact, you bought $500 worth of “STUFF” with your credit card.In fact, you bought $500 worth of “STUFF” with your credit card.

You bought “STUFF” with your credit card.You bought “STUFF” with your credit card.

Your APR is 18%.Your APR is 18%.

You plan to pay $10 a month to pay it off.You plan to pay $10 a month to pay it off.

You will pay $431 in interestYou will pay $431 in interest

Final cost of your purchases = $931.40Final cost of your purchases = $931.40

And it will take SEVEN YEARS and NINE MONTHSAnd it will take SEVEN YEARS and NINE MONTHS

How Long Will It Take???

APR = 18%APR = 18%

Payment: 4% of current balancePayment: 4% of current balance

You owe $3,000.You owe $3,000.

Finance Charge $1715.69Finance Charge $1715.69

Total cost of original Total cost of original $3,000 loan = $4715.69$3,000 loan = $4715.69

Plus: After you’ve made the last payment, will what you purchased still be

around???

And it will And it will take take

nearly nearly 11 YEARS 11 YEARS to pay off!to pay off!

The Cost of Using Credit

APR = 24%APR = 24%

Payment: 4% of current balancePayment: 4% of current balance

$700 for a Game System$700 for a Game System

Finance Charge $550.04Finance Charge $550.04

Your CD player REALLY Your CD player REALLY cost $1,250.04cost $1,250.04

After you’ve made the last payment, will your CD player still be around???

And it will And it will take overtake over7 years 7 years

to pay off!to pay off!

The Cost of Using Credit

APR = 21%APR = 21%

Payment: 4% of current balancePayment: 4% of current balance

$3,000 Charged to Credit Account$3,000 Charged to Credit Account

Finance Charges $2,220.57Finance Charges $2,220.57

You Owed You Owed $3,000$3,000

butbutYou PaidYou Paid$6,065+$6,065+

Includies annual feesIncludies annual fees

Annual Credit Card Fee: $65Annual Credit Card Fee: $65

Paying the minimum, it will Paying the minimum, it will take you 11 YEARS and 11 take you 11 YEARS and 11 MONTHS to pay off your debt.MONTHS to pay off your debt.

Financial Consequences of Debt

Could put you in a state of overspending and perpetual debt,

where you get used to carrying a balance and paying extremely high interest rates.

Could adversely affect your credit rating, making it harder to get loans when you really need

them.

1 of 2

What if you took a $120 monthly payment (last example) and INVESTED $120 a month for the 12 years it took to pay off the $3,000 debt, and your investment got an 8% rate of return?

Instead of $6,000 paid for $3,000 worth of “stuff”, your $120 monthly invest- ments would amount to $28,799 in your pocket!

Financial Consequences of Debt2 of 2

Credit Reports and Scores

Three credit reporting agencies: Equifax, Transunion, Experian

Credit Score (300 – 850): a three digit numeric value that represents a person’s creditworthiness•= FICO score (“Fair, Isaac & Company“)

Creditworthiness - how much of a risk a debtor is (based on borrowing history)

How Credit Scores Are DeterminedHow Credit Scores Are Determined1. Your payment history1. Your payment history

Information about: Information about: your payments on credit cards, store accounts, your payments on credit cards, store accounts,

car loans, finance companies, mortgagescar loans, finance companies, mortgages

Accounts in “collection” or past due, and how long Accounts in “collection” or past due, and how long past duepast due

Information in public records (bankruptcy, Information in public records (bankruptcy, judgments, liens, child support, etc.)judgments, liens, child support, etc.)

How Credit Scores Are Determined, cont.How Credit Scores Are Determined, cont.

2. Your overall debt2. Your overall debt How much you owe on all your accountsHow much you owe on all your accounts How much credit you have available to useHow much credit you have available to use

3. Your credit account history3. Your credit account history When you opened and used each of your accountsWhen you opened and used each of your accounts How recently you applied for new creditHow recently you applied for new credit Recent good credit history following past payment Recent good credit history following past payment

problemsproblems

How Credit Scores Are Determined, cont.How Credit Scores Are Determined, cont.

4. Types of Credit4. Types of Credit The different types of credit accounts you haveThe different types of credit accounts you have The total number of accounts you haveThe total number of accounts you have

Get and Keep a Good ScoreGet and Keep a Good Score Make sure your credit report is accurate.Make sure your credit report is accurate. Pay all your bills on time.Pay all your bills on time. Apply for credit only when you need it.Apply for credit only when you need it. Lower the balances on your credit accounts.Lower the balances on your credit accounts. Pay off debt rather than moving it around.Pay off debt rather than moving it around. Etc.Etc.

Protect Yourself Against Inaccurate Credit Protect Yourself Against Inaccurate Credit ReportsReports Get a copy of your free credit reports from all credit Get a copy of your free credit reports from all credit

rating agencies.rating agencies. Examine it thoroughly.Examine it thoroughly. If you find something that is incorrect, ask the agency If you find something that is incorrect, ask the agency

to investigate the information.to investigate the information. If that doesn’t resolve the issue, you can attach a If that doesn’t resolve the issue, you can attach a

short statement to your credit report.short statement to your credit report.

One Credit Union’s advice for keeping your credit card safe: Make sure you tell your bank/CU when you are

traveling Take advantage of a free mobile app to check your

accounts If your credit/debit card is stolen

Call your bank or CU right away You will have to sign an affidavit if making claim

One CU’s advice for building your credit, cont.

apply for ONE card onlykeep it at least a yearonly charge up to 30-50% of your limitDON’T SPEND WHAT YOU DON’T HAVE!

pay balance entirely when bill comesmake payments on timeuse a co-signer if you have to Good idea to have parent on account (for access)

70%70%Living ExpensesLiving Expenses

10%10%Pay Pay Off Off

DebtDebt

20%20%Save or InvestSave or Invest

Spend your income: A Rule of ThumbSpend your income: A Rule of Thumb

If you get in trouble…Option one - bail yourself out!

Find the problems and solve them yourselfOption two - Credit counseling

use of a reputable organization to help you get out of trouble(NFCC - National Foundation for Credit Counseling)

Option three - Debt consolidationTake the loans you have (debt you owe) and put them together : one amount, one lender, one interest rate

Option four - Bankruptcy•Basically saying: “I will never pay this debt off”•Slate is wiped clean (after 7 years)… but…•… GOOD LUCK EVER GETTING ANOTHER LOAN EVER AGAIN!

Note: you cannot get rid of student loans this way)

Credit and Borrowing Summary

USE but don’t abuse!