Chapter 8
Consumer Credit
Question:
What is credit?
 Is credit necessary/important? Why
or why not?
 What type of things would you use
credit for?
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The Importance of Consumer
Credit to the U.S. Economy
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Credit: An arrangement to receive cash,
goods, or services now and pay for them
in the future
Consumer Credit: Use of credit for
personal needs.
Creditor:An entity (bank, finance
company, business, or individual)to which
money is owed. Agrees to advance an
individual the money, goods, or services.
In turn the individual agrees to repay the
creditor over a period of time
Cont.
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Consumer Credit: Use of credit for personal
needs
Installment credit was introduced in the 1900’s
as automobiles were introduced
Especially helpful for expensive items
Each installment includes part of the amount due
on the purchase as well part of the cost of credit
Major force in American Economy. Track
consumer spending
See Figure 1 pg. 226
Uses and Misuses of Credit
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Increases the amount of money you
can spend now, however decreases
the amount of money you will be
able to spend in the future
Factors to Consider Before Using Credit
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Finance: Give or get money for
something
See pg. 226 for list of things to consider
before using credit
Creditor may add to the purchase price,
especially if you don’t pay your bill in full
every month
Interest: Periodic charge in exchange for
the use of credit
Make sure the benefit of using credit now
outweigh the possible costs later
Advantages of Credit
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Main advantage: Allows you to enjoy goods
and services now (esp. if you have low
funds)
May get special deals or discounts if you pay
your bills on time (store department credit
cards)
Often time only acceptable way to pay for
services: Electric bill, telephone bill
Often used for making reservations, renting
a car, shopping by phone or internet
Safer to use because don’t have to carry
cash
Disadvantages of Credit
Temptation to overspend is greatest
disadvantage
 Don’t buy things you can’t afford
 Could cause you to lose income or
property
 Using credit does not mean you
have more money, just delays
payment
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Types of Credit
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Closed-end credit and open ended,
both will be used sometime on your
life
Closed-End Credit
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Receive a one-time loan that you will pay
back over a specified period of time and
in payments or equal amounts
For a specific purpose and involves a
definite amount of money
Mortgage, car payment, furniture,
appliances
Title: Document showing ownership to
the item until all payments have been
made
Open-End Credit
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You borrow money for a variety of goods
and services
Company issuing the credit gives you a
certain limit on the amount of money you
can borrow
Line of Credit: Maximum amount of
money the creditor has made available to
you (visa, MasterCard, store brand)
Can make as many purchases as you
wish as long as you stay below credit line
Billed monthly for at least partial payment
Sources of Consumer Credit
Chart pg.231
Loans

Borrowing money with an
agreement to repay it along with
interest, within a certain amount of
time
Inexpensive Loans
Parents or family members are often
common source
 May not charge any interest or very
low interest
 May complicate family dynamics
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Medium-Priced Loans
Usually moderate interest rates
 Get from commercial banks, creditunions, savings and loan
associations
 Credit unions are often more patient
and have better rates, because you
are a member
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Expensive Loans
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Easiest to obtain, but will have the
highest interest rates, often 15-25%
Banks also offer cash advances, loans
that are billed to charge account
Usually higher interest rates on cash
advances
More expensive to take cash advance
rather then use credit card
Why are they the easiest to obtain?
Home Equity Loans
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Based on the difference between the
current market value of your home and
the amount you still owe on the
mortgage, interest you pay is tax
deductible
Should use these loans only for major
items or emergency
If you miss a payment, the lender can
take your home
Credit Cards
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Average cardholder has more than nine credit
cards (bank, retail, gasoline, and telephone
cards)
Convenience Users: Those who pay off their
balances in full each month
Borrowers: Those who do not pay off their
balances every month
Grace Period: Time period during which no
finance charges will be added to your account
Finance Charge: Total dollar amount you pay to
use credit, usually is you pay entire balance
before due date you will not have to pay a
finance charge
See pg. 232 for “Choosing a Credit Card” tips
Debit Cards
Used for ATM’s and purchases
 Electronically deducts money from
checking or savings account
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Cobranding
Linking of a credit card with a
business trade name offering points
or premiums toward the purchase of
a product or service
 Advantage to credit card?
 Very popular
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Smart Cards
Plastic card with computer chip
 Stores 500 times more data then
normal card
 Can combine credit card balances,
drivers license, health care
information, travel information
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Travel and Entertainment
Cards (T&E Cards)
Balance is due in full each month
 Diners club or American Express
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Section 8.2
Measuring the Cost of Credit and
Obtaining Credit
Can you Afford a Loan?
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Will you be able to afford all of your usual
monthly expenses, plus a loan payment?
Add all of your basic monthly expenses,
then subtract the total from your takehome pay
What could you give up to take out the
loan?
Could use the debt-payments-to-income
ratio formula to decide if you can safely
take on a loan
Debt-Payments-to-Income Ratio
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The percentage of debt you have in
relation to your net income
Net Income: All income you receive
Should spend no more then 20% of your
net income on debt payments
Monthly debt includes credit card and
loan payments
To figure: Divide your total monthly debt
payments (except house payments) by
your monthly net income
If young, recommend staying under the
20% limit (Ideally 15%)
The Cost of Credit
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2 key factors will be finance charge
and the annual percentage rate
(APR)
The Finance Charge and the APR
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Finance Charge: Total dollar amount you pay to
use credit, normally paid for any unpaid
balance
Finance charge calculated using the APR
Annual Percentage Rate: Shows how much
credit costs you on a yearly basis, expressed as
a percentage
Ex: APR of 18% means you pay $18 per $100
you owe
See fig. 6.4 for APR chart
Truth in Lending Act says creditor must inform
you in writing and before you sign anything of
the finance charge and the APR
Tackling the Trade-Offs
Various decisions: Length of the
loan, size of monthly payments, and
the interest rate
 Term Versus Interest Costs:
Choosing longer-term financing in
exchange for smaller payments,
disadvantage is you pay more
interest. See pg. 236
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Lender Risk Versus Interest Rate
May prefer to have a down payment
 Lenders goal is to minimize risk
 Various ways to reduce lender risk….
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Variable Interest Rate
Based on changing rate in the
banking system
 Interest rate you pay on your loan
will vary from time to time
 Somewhat risky, recommend to
avoid
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Secured Loan
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Receive a lower interest rate by pledging
collateral
Collateral: Form of security to help
guarantee that the creditor will be repaid
Ex: Savings, property, investments
Pledged: What you promised as collateral.
Lender can take if you fail to pay
Up-Front Cash
Lenders feel you have more of a
stake in the loan if you put down a
large down payment
 The bigger the down payment the
more likely you are to get the loan
 The lower your credit score the more
down payment you will need
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A Shorter Term
Shorter the term of the loan, the
less chance you will default on it
 Monthly payment will be higher
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Calculating the Cost of Credit
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Simple Interest Formula most commonly
used. Based on the following:
Principal*Rate*Time (computed only on
the principle)
Simple Interest on the Declining Balance:
When simple interest loan is paid back in
more than one payment, this method is
used. You pay interest only on the
principal you have not yet paid. The
more payments you make the less
interest you will pay (often used by credit
unions)
Cont.
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Add on interest: Interest calculated on the full
amount of the original principal no matter how
often you make payments. Longer you pay the
loan the more interest you will pay
Cost of Open-End Credit: Truth in lending act
requires lender to let you know how the finance
charge and APR will affect the cost
Cost of Credit and Expected inflation: Each
percentage increase in inflation decreases 1
percent of the cost of goods you can buy.
Lenders try to let you know the expected
inflation
Continued
Avoid the Minimum Monthly
Payment Trap: Smallest amount you
can pay and remain a borrower in
good standing.
 Lenders often encourage this (why?)
 Ex: $500 charged at 19.8% per
year. Minimum payment $21.67.
Would take almost 2 years to pay off
and additional $150 in interest
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Applying for Credit
Most lenders establish credit policies
on the 5 C’s of Credit
 Character, Capacity, Capital,
Collateral, and Credit History
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1) Character: Will you
repay the loan
Creditors want to know what kind of
person they are lending money to
 May ask for references or check to
see if you have had law trouble
 See pg. 241 for questions you may
be asked
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2) Capacity: Can you Repay
the Loan?
What income do you have, what
debts do you already have?
 If you have large amounts of debt
you may not get a loan
 See questions pg. 241
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3) Capital: What are your
Assets and Net Worth?
Assets?
 Your capital is the amount of your
assets that exceed your liabilities or
the debts you owe
 Do you have savings or assets to
sell to pay off the loan if needed
 Questions: What are your assets?
What are your liabilities?
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4) Collateral: What if you
don’t repay the loan?
What property and savings do you
have?
 Creditor may take whatever you
pledged as collateral
 See pg. 242
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5) Conditions: what if your
job is insecure?
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Economic conditions such as
unemployment and recession can affect
your ability to repay a loan
Question focuses on security of your job
and your company that employs you
Credit Rating: Measure of a persons
ability and willingness to make credit
payments on time
Credit Rating
Factors that determine: Income,
current debt, character, past debt
payments
 If you have low debt and made
payments on time you should be
fine
 Pg. 242 Figure 5
 See pg. 243 Figure 6
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FICO and Vantagescore
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Info from credit report is used to
calculate your FICO score
Score ranges from 350-850
Higher the score the better
Vantagescore: New scoring technique
made by the 3 credit bureaus. More
predictable for consumers. Ranges from
501-990. You want the 3 bureaus to be
similiar
Improving Credit Score
1st step is to review credit report to
make sure its accurate
 Long-term responsibility is key
 Pay bills on time, lower balances,
use credit wisely
 Some debt is good
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Credit and Equal Opportunity
Equal Credit Opportunity Act states
all credit applicants have the same
basic rights
 Can’t discriminate based on age,
race, nationality, sex marital status,
etc.
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Age
Can request you to state age on
application
 If 18-21 (depending on state)
creditor cant….
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• Turn you down or decrease credit because
of age
• Ignore retirement income when rating
• Close credit account because retired
• Close after reaching certain age
Public Assistance
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Can’t be denied because you receive
Social Security or public assistance
HOUSING LOANS
 Bans discrimination against you
based on race or nationality of the
people in a neighborhood known as
REDLINING
What if your Application is
Denied?
ECOA give you the right to know the
reasons why you were denied for
credit
 After you receive the denial you
have 60 days to dispute anything on
the report
 See figure 7 pg. 244
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Your Credit Report
Most lenders rely on them heavily
 Figure 8 pg. 246
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Credit Bureaus
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Agency that collects information on how
promptly people and businesses pay their
bills
Major Bureaus: Experian, Transunion, and
Equifax
Get info from banks, finance companies,
stores, credit card companies, and
lenders
Also track payment habits and court
records
What’s in your Credit Files?
Typically: Name, address, SSN, DOB
 May also include those items found
on page 247
 Every time you use a Credit Card
the credit bureau is informed
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Fair Credit Reporting
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Fair Credit Reporting Act, enacted 1971
Requires deletion of out-of-date
information and gives consumers access
to their files as well as right to correct
mistakes. Every 5 years, 10 if filed for
bankruptcy
Exceptions: If applying for more then
$75,000 loan or $150,000 life insurance
policy
Legal Rights
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You have the right to sue a credit
bureau or creditor that has cause
you harm by not following rules
established or filed wrongful claim
Section 8-3
Protecting Your Credit
Billing Errors and Disputes
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Even if you pay your bills all the time, errors
may happen
Billed Twice, lost payment
Notify your creditor in writing and include any
information that might support your case
Pay portion of the bill not in question
Creditor must acknowledge your letter within
30 days
Within 2 billing periods (not longer than 90
days) creditor must adjust or tell you why it is
correct
If no errors are found you can be charged for
the finance charges that accumulated
Protecting your Credit Rating
Creditor may not threaten your
credit rating or do anything to
damage your credit reputation while
you’re negotiating a billing dispute
 Can’t take any action to collect the
amount in question until your
complaint has been answered
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Defective Goods and Services
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If used a credit card, and store will
not accept a return you may call
credit company and put a halt on
the payment
Identity Crisis: What to Do
if your Identity is Stolen?
Identity theft is the fastest growing
major crime
 Identity Theft: Imposters using your
personal information to commit
fraud
 Often times don’t realize it
happened till an inopportune time
 If victim…. Contact credit bureau,
Contact creditors, file a police report
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Protecting your Credit from
Theft of Loss
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Dumpster Divers, shred papers
If believe someone got your account
numbers, close account ASAP, get new
pin numbers
Tips: Make sure card is returned to you
after a purchase, keep separate record of
credit card numbers
Contact CC Company immediately.
$50 max if reported quickly. No
responsiblility if reported before used
Keeping Track of your Credit
Don’t notice until something wrong
 Get a bill in the mail for accounts you
didn’t open
 Suspicious activity on your credit
accoun
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Steps to Protect Other Accounts
Bank statements, checking account,
atm
 Close immediately
 Get password only access
 Stop lost checks
 Get new pin if lose ATM
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Government Agency Protection
If after taking the necessary steps
you still have problems, contact the
FTC
 Secret service has jurisdiction over
financial fraud cases
 Often times your case is part of a
bigger case
 May need a new Social Security #
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Credit Information on the
Internet
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Internet may be the most important part
to everyday life
Investing, banking shopping
Use secure sites/browsers
Keep records of transactions
Review all statements
Read privacy and security policy
Keep personal information to yourself
Never give password
Don’t download files from strangers
Co-signing a loan
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Take time to think it over
Co-signing: Agreeing to be responsible for
loan payments if the other party fails to
make them
Lender would not take a risk on the
person, that’s why the co-signer is
needed. Are you willing to risk that?
Negative feedback can appear on both
your record and the borrowers
Pg. 254 list
Complaining About
Consumer Credit
If you feel lender is not following
laws, first try to contact the lender
 After that follow consumer
protection laws
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Consumer Credit Protection Laws
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If banks can’t help, get in contact with the Federal
Reserve
If take legal action, be aware of the following
credit protection laws:
1.
2.
3.
Truth in Lending and Consumer Leasing Acts: If fails to
issue information or gives inaccurate information, you can
sue for any money loss you suffer, also permits class
action lawsuits
Equal Credit Opportunity Act: Discrimination suits, sue for
actual plus punitive damages up to $10,000
Fair Credit Billing Act: If don’t follow rules for correcting
billing erros they will automatically give up the amount
owed on the item in question and any finance charges on
it, up to $50. May charge for actual damages plus twice
the amount of any finance charge
Cont.
4) Fair Credit Reporting Act: May sue any credit
bureau that violates the rules regarding access
to your credit records to that fails to correct
errors in your credit file. Actual and punitive
damages apply.
5) Consumer Credit Reporting Reform Act: Places
the burden of proof for accurate credit
information on the credit bureau rather than to
you
6) Credit Card Act: 2009 act that est. clear
practices for extending credit to consumers
(list pg. 255)
Your Rights Under
Consumer Credit Laws
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If you feel you have been refused
because of discrimination:
Complain to the creditor, let them know
you know the law
File a complaint with the government
Sue the creditor as a last resort (actual
damages, punitive, and fees)
Section 6-4
Managing your Debts
Warning Signs of Debt Problems
Some people who appear to have a
lot of money are actually barely
keeping their head above water.
 Main problem is financial immaturity
(lack self-discipline and impulses)
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Financial Trouble Warning Signs
You make only the minimum monthly payment
on credit cards
 Your having trouble making the minimum
monthly payment
 The total balance on your credit card increases
every month
 You miss loan payments or often pay late
 You use saving to pay for necessities
 You receive second or third payment notices
from creditors
 You borrow money to pay off old debt
 You exceed the credit limits on your credit cards
 You have been denied for credit because of a
bad credit report
*If you experience 2 or more of these, consider
your spending habits
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Debt Collection Practices
Fair Debt Collection Practices Act:
Prohibits certain practices by debt
collectors
 Debt Collectors: Businesses that
collect debts for creditors
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Financial Counseling Services
Can try to work out payment plans
with creditors
 Or contact a nonprofit financial
counseling program
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Consumer Credit Counseling Service
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Nonprofit organization affiliated with the
National Foundation for Consumer Credit
Provide debt counseling services for
families and individuals with serious
financial problems. May charge small fee
Divided into 2 parts: 1) helping families
with debt problems by helping them
setup a realistic budget (2) Helping
people prevent indebtedness by teaching
them the importance of budget planning,
unwise credit buying, and encouraging
credit institutions from withholding credit
from them
Other Counseling Services
Universities, Credit Unions, Military
Bases, some banks
 Debt Counselors of America
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Declaring Personal Bankruptcy
Legal process in which some or all of
the assets of a debtor are
distributed among the creditors
because the debtor is unable to pay
his or her debts. May also include a
repayment plan based on
installments (Last Resort)
 See Figure 6.10 pg 190
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The U.S. Bankruptcy Act of 1978
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Majority of U.S. Bankruptcy are filed
under Chapter 7 (straight
Bankruptcy) others Chapter 13
(wager earner plan bankruptcy)
Chapter 7 Bankruptcy
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Required to draw up a petition listing his
or her assets and liabilities
Debtor: Person who files for relief under
the bankruptcy code. Submits petition to
U.S. District court and pays a fee
Assets Protected: Social Security
Payments, unemployment compensation,
net value of your home, vehicle,
household goods and appliances, tools
used for work, and books
Still must pay alimony, child support,
fines, some educational loans, and debts
you fail to disclose
Chapter 13 Bankruptcy
If you have a regular income,
propose a plan for using future
earnings to eliminate debt over time
 Usually keep all or most property
 Plan can be as long as 5 years,
makes payments to a representative
who then distributes the payments
to creditors
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The Bankruptcy Abuse Prevention and
Consumer Protection
Passed in 2005 by President Bush
 Government financial educational
curriculum program to increase
awareness in American citizens
 Debtors must take course
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Effects of Bankruptcy
Some people actually say they have
an easier time obtaining credit after
they file for bankruptcy
 Easier for chapter 13 filers
 Kept on file for 10 years
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