Credit and Debt

• What is Credit?• Someone lends you money • 1. The original amount borrowed is called the

___• Principal

Common Types of Credit

• 2. Which type of credit has the highest interest rates?

• Credit Card (Revolving Credit)• 3. Which type of credit has the lowest interest

rates? • Student Loan / Mortgage • 4. Which type of credit has no “term”? • Credit Card

• 5. Which type of credit has the longest term? • Mortgage• 6. Which type of credit usually has a 10 year

term? • Student • 7. Which type of credit usually offer tax breaks

for the interest paid? • Student / Mortgage

Mortgage Details

• Requires a credit check • Requires a down payment • Typically 15 or 30 year term • Interest rates may be fixed or variable (ARM) • Adjustable rate mortgage

• **on test

The Cost of Using Credit

• 8. If an advertisement states “Buy now and pay only $19 a month.” – What is the ad NOT telling you?

• Interest rate, payoff time and payoff amount• 9. Know the bold terms on p. 44 and 45 • Annual Fee Credit Limit Finance Charge• Origination Fee Loan Term • Grace Period Over limit fee Late fee• Universal default

Credit: The Good and the Bad

• 10. Understand the “risks” and “rewards” of credit

• Risks: Interest, Overspending, Debt (legal claims against your future income), Identity Theft

• Rewards: Convenience, Protection, Emergencies, Build Credit, Quicker Gratification, Special Offers, Bonuses

• 6 Questions to Ask When You Compare Credit (know them)

1. What is the interest rate (for purchases)? 2. How long is the loan for? 3. Minimum Monthly Payment? 4. Grace Period ? 5. Extra fees/penalties? 6. Which is best deal for me?

The 4 C’s of Credit• 11. An asset that lenders can take from you if

you do not repay a loan is ….• Collateral• 12. If you put up a house or car as an asset to

guarantee your loan, it is called a ……loan• Secured• 13. When assessing your credit worthiness,

lenders want to know if you have ….. . That is, if you failed to pay the loan, they can sell your assets.

• Capital

• 14. A pattern of rising income and steady employment help determine your ____ to repay your loan.

• Capacity• 15. A history of paying bills on time helps

demonstrate to lenders that you have good ___ and are worthy of getting a loan

• Character

Keeping Score With Your Credit

• 16. What is a FICO score? • A number that reflects your credit worthiness

based on the 4 C’s.

• ….the rest is not needed for test…..• Fair Isaac Corporation 1958 • use predictive analytics to help businesses

automate, improve and connect decisions across organizational silos and customer lifecycles.

• *there are several other credit scoring agencies

• 17. The average consumer has ___ on record at a credit bureau.

• 13• 18. Your credit score reflects your …• Credit worthiness

• 19. Credit scores range from ……..to……..• 300-850• 20. Building and maintain a good credit score

is as simple as……• Discipline• You have the right to receive one free credit

report per year from each of the three credit bureaus.

•"The very best rates go to people with scores above 770, but a score of 700 is considered good• (the average score is 725)•a score above 700 indicates relatively low credit risk, while scores below 600 indicate relatively high risk... " •Anything below about 550 is considered awful."

**Know the quotes in blue

Your Credit Score is made up of….(Do not need for test)

1. 35% - payment history2. 30% - “debt to credit limit ratio”: • Balances on all credit cards and loans ($5000)Compared to …..• Available credit limits on all cards ($20000)• = 25%• Keep as low as possible • Good = < 30% ; Very Bad = > 50%3. 15% - length of credit history

(do not need for test)

4. 10% - # of recently opened accounts and credit inquiries - when you pay for a credit score or potential lenders look into your score

• don’t want too many cards (3-4) ; don’t want to seek lots of credit in limited time

5. 10% - mix of credit : higher scores if you can manage 2-3 cards and other loans at same time

• A simplified look at what Lenders look at….

They will look at a Borrower’s : Liability Payment history Income **know for test

21. Be able to summarize the five ways to hurt your credit history and score.

• Late payments• Bouncing checks• Too many credit cards/loans• High balances• Changing credit cards frequently

These are not good ways to manage your credit

Getting Your Piece of the Credit Pie• 22. As a student, there are 5 ways to begin

building your credit history. Identify them. • Co-sign on credit card• Credit card from “your” bank• Store credit card • Secured Credit Card (pre-pay) …like debit• Rent and/or Utility bills in your name• 23. Your first credit card will most likely have…• Low limit

70% Living Expenses

20% Save Invest

10% Pay Debt

Know for test “70-20-10 Rule”

Pitfalls and Warnings* = need to know #1-6

1. *Making ONLY THE MINIMUM payment raises the cost of Debt (credit card co’s make most of their profit off of interest charges)

2. *Too much available credit may look risky to other lenders…..why?

3. *Late Payments = Triple Threat • Fees• Increase interest rates• Lower credit score

Previous Balance 1000Paid the min - 50New Balance ????? 950 But that 950 is charged interest. So…..

New Balance 960Pay the min - 48

912But add interest = 922So you paid $98 on $1000 balance Should owe $902 but owe $922

4. 7-10 year history5. Make a Plan to Pay it Off • If Multiple Sources of Debt a. *Pay off smallest balance first = easy to see

progress b. *Pay off largest interest first = paying less in

the long run

6. Hounded by Creditorsa. Negotiate with Creditorsb. Seek help (credit counseling agencies) c. Bankruptcy

Consequences of Failing to Manage Your Credit a. Bankruptcy

Unable to meet financial obligations

b. Foreclosure- Inability to make mortgage payments; bank claims

ownershipc. Repossession

-bank sends contractors to take your possessions back (cars, boats, etc..)

d. Difficulty securing job …why? -especially in business or finance

e. Hard to obtain future credit

• Need to know

• Red Text = need to know• PRIME RATE• Prime Rate as an index or foundation rate for

pricing various short-term loan products. • When newspapers, academics, investors and

economists refer to the National, Fed, U.S. or WSJ Prime Rate, it is widely accepted that they are in fact referring to The United States Prime Rate as listed in the Eastern print edition of the Wall Street Journal® (WSJ).

• The U.S. Prime Rate is invariably tied to America's cardinal, benchmark interest rate: the Federal Funds Target Rate (also known as The Fed Funds Rate.)

• U.S. Prime Rate = (The Fed Funds Target Rate + 3)• Now: FFR = (targeted between 0 - .25) + 3 = • 3.25• What you pay : 3.25 + (margin or spread for profit)

= ……. • Credit Card ex: 3.25% + 12.74% = 15.99

Sub-Prime• A type of loan that is offered at a rate above prime

to individuals who do not qualify for prime rate loans.

• Quite often, subprime borrowers are often turned away from traditional lenders because of their low credit ratings or other factors that suggest that they have a reasonable chance of defaulting on the debt repayment.

• Good? / Bad? • Major role in housing collapse• Is the American Dream (house) your right? • Is it (should it) be guaranteed?