Credit Management
Chapter 16 - Credit in America
Chapter 17 - Credit Records & Laws
Chapter 18 - Responsibilities and
Costs of Credit
Chapter 19 - Problems with Credit
Credit in America
• The History of Credit
– Early Years
• Accounts at the general store
• Banks were reluctant to loan, charged high interest
– The 1900s
• Began to understand advantages of credit
• Laws enacted to protect consumers
– Today
• Easier to use
Vocabulary of Credit
• Debtor - person who borrows money
• Creditor - person/company who loans money
• Capital - property you possess that is worth
more than your debts
• Collateral - property pledged to assure
repayment of a loan
• Finance change - the interest you pay for the
use of credit (handling charge, service
charge, carrying charge)
More Vocabulary
• Minimum payment - least amount you can pay
that month
• Due date - date payment is due
• Late fee - amount charged if payment is not
made on time
• Installment agreement - contract you sign for
an expensive purchase wherein you agree to
make regular payments for a period of time
• Secured loan - loan that uses the goods being
purchased as collateral
Advantages of Credit
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If used correctly, credit can:
Expand your purchasing power
Raise your standard of living
Purchase expensive items earlier than if
you had to pay cash
4. Can provide emergency funds
5. Convenient
6. Provides proof of purchase
Disadvantages of Credit
1. Credit purchases may cost more than
cash purchases.
2. You tie up future income.
3. Can lead to overspending.
Video
• http://www.pbs.org/wgbh/pages/frontline
/shows/credit/view/
Kinds of Credit
• Open-Ended Credit
– An agreement to lend the borrower an amount up
to a stated limit and to allow borrowing up to that
limit again whenever the balance falls below it
• Closed End Credit
– A loan for a specific amount that must be repaid in
full by a stated due date
• Service Credit
– An agreement to have a service performed and
pay for it later
Open-Ended Credit
• Open 30-day accounts
– A credit agreement that must be paid in full
every 30 days.
• Revolving Credit Accounts
– A credit agreement that allows you the
option of paying a minimum amount each
month (credit cards)
Shopping for a Credit Card
• Need to consider and compare:
1. Annual percentage rate (APR)
2. Free Period - (grace period) allows you to
avoid finance charges if balance paid in full
by certain date
3. Annual Fees
4. Transaction Fees and Late Fees
5. Method of Calculating the Finance Charge
Closed-End Credit
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Does not allow for continuous borrowing
Set payments (installments)
Sometimes called an installment loan
Must include: amount loaned, total
finance charge, amount of each
payment
• Usually requires a down payment
• Items bought serve as collateral
Service Credit
• An agreement to have a service
performed now and paid for later
• Almost everyone uses some form of
service credit
• Examples: phone, utilities, doctors, etc.
• Most do not charge a finance charge
Sources of Credit
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Retail Stores
Banks and Credit Unions
Finance Companies
Pawnbrokers
Private Lenders
Other sources
– Life insurance policies
– Certificates of deposit
Establishing Good Credit
• Credit Records
– Credit History is the complete record of your
borrowing and repayment performance
• Credit File
– On file with a credit bureau (a company that
gathers, stores, and sells credit information
to business subscribers)
– Three major U.S. Credit Bureaus Experian, Equifax, and Trans Union
Credit Report
• A written statement of a consumer’s
credit history
• You can request a copy of your credit
report at any time
– Normally there is a small fee ($5 - $15)
– If you are denied credit, you can get a
FREE credit report if you ask within 30
days of being denied credit
Credit Report Information
• Any public information becomes a part of
your credit report
– Bankruptcy, marriage, divorce, paying
property taxes, job promotions, lawsuits, etc.
• Subscribers pay a monthly fee to the
credit bureaus and provide the
information to the bureau
Creditworthiness
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Are you a good risk for credit?
Creditors will look at five basic
qualifications:
Character
Capacity
Capital
Conditions
Collateral
Character
• A responsible attitude toward living up
to agreements.
• Will you repay the debt?
• Credit history will show if you pay your
bills on time which shows good
character.
• Creditors also look for stability. How
often do you move or change jobs?
Capacity
• The financial ability to repay a loan with
present income.
• Can you repay the debt?
• Creditors will want to know if you have
the financial resources to add another
bill to your monthly expenses.
Capital
• The property that you possess that is
worth more than your debts.
• Is the creditor fully protected if you fail
to repay?
• If the credit is unsecured, do you have
enough to cover the debt?
Conditions
• The state of the economy can affect
your ability to repay.
• What general economic conditions can
affect your repayment of debt?
• Will look at your job stability - do you
work in an industry that is struggling?
-do you live in an area that is
struggling?
Collateral
• Property pledged to assure repayment
of a loan.
• Similar to capital
• What assets back up your promise to
pay?
Questions a Creditor
May Legally Ask
• Personal Information (Name, age,
number of dependents, phone #)
• Employment Information (place and
length of employment, history)
• Obligations (alimony, child support,
outstanding debts and accounts)
• Residence (own or rent, immigration
status, how long there, history)
Getting Started
• Establish a Savings Account
• Open a Checking Account
– Shows that you can handle money
• Open a Store Credit Account
• Get a Small Loan
• Apply for a Credit Card
Assignment
• Chapter 17 worksheets are due on
Wednesday at the BEGINNING of class
• Have them complete BEFORE you
come to class
• YES THEY WILL BE GRADED!!!
Credit Ratings
• A measure of creditworthiness
• Excellent (A rating): pay bills before due
date, well established, has not missed any
payments, paid more than the minimum
• Good (B rating): pay bills on due date or
within grace period, does not miss payments
• Fair credit rating: usually pays within grace
period but may be late occasionally
• Poor credit rating: payments not regular, may
miss a payment, frequently reminded to make
a payment
What’s in a
Credit Report?
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Summary of Information
Public Record Information
Credit Information
Account Detail
Requests for Credit History
Personal Information
Fair Credit Reporting Act
If you are denied credit:
• You have the right to know what is in your
credit file and who has seen your file
• Can see your file at no charge if requested
within 30 days of denial
• A small fee will be charged any other time
• You have the right to have inaccurate
information investigated and removed; or
write a statement re: the information giving
your side of the story
Fair Credit Billing Act
• Creditors must resolve billing errors within a
specified period of time
• You have to notify the creditor of the error must be in writing and mailed within 60 days
after you receive the statement
• Creditor must acknowledge your complaint
within 30 days and correct (or show why you
owe) error within 90 days
Equal Credit Opportunity Act
• Designed to prevent discrimination in
judgment of creditworthiness
• Credit may not be denied:
– solely because your are a woman, single, married
divorced, separated, or widowed
– Because of religion, nationality, race, color, or
age.
– Because you receive public assistance,
unemployment, social security, or retirement
benefits
• Credit applications can be oral or written
(creditors are prohibited from asking
certain questions)
• Creditor may not discourage you from
applying for credit for any reason
prohibited by the act
• A denial must be sent to you in writing
and a specific reason must be listed
• New accounts must list both spouses as
responsible for payments
Fair Debt Collection
Practices Act
• Designed to eliminate abusive collection
practices by debt collectors
• Cannot use threats, obscenities, and
false or misleading statements
• Restricts time and frequency of contacts
• Must verify accuracy of bills and allow
the consumer the opportunity to clarify
Using Credit Responsibly
• Responsibilities of Consumer Credit
– To Yourself
– To Creditors
– Creditors’ Responsibility to You
Responsibilities to Yourself
• Use credit wisely
• Don’t live beyond your means
• Check out the businesses where you
make credit purchases
• Comparison shop
• Have the right attitude about using
credit
Responsibilities to
Creditors
• Limit your spending to amounts you can
repay according to contract terms
• Read and understand all terms of the
agreement
• Contact the creditor immediately if you
find an error
• If you can’t make a payment, contact
the creditor
Creditors’ Responsibilities
to Yourself
• Assist consumers in making wise decisions
• Inform customers about all rules and
regulations, and fees
• Cooperate with established credit reporting
agencies
• Establish and carry out sound lending and
credit policies
• Establish and maintain fair and reasonable
methods of contacting customers
Protecting Yourself from
Credit Card Fraud
• Costs businesses and consumers
millions of dollars a year
• Most common type of fraud is illegal use
or a lost or stolen credit card
– Card holder’s liability is limited to $50
– Businesses may lose money
Safeguard Your Cards
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Sign as soon as you receive it
Carry only the cards you need
Keep card information in a safe place
Notify creditor IMMEDIATELY if card is
lost or stolen
• Watch your card during transactions
» Continued
More Safeguarding
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Tear up any carbons or extra copies
Do not lend your card to anyone
Destroy expired cards
Don’t give credit card information by
phone to people or business you don’t
know
• Keep your receipts and verify with your
statement
Protect Your Cards Online
• Deal only with companies you know and
trust
• Look for the secure site symbol
• All legitimate online merchants should
clearly state their privacy policy
Avoiding Unnecessary
Credit Costs
• Accept only the amount of credit that you need.
• Do not increase credit spending when your
income increases.
• Keep the number of credit cards to a minimum.
• Pay cash for purchases under $25.
• Understand the cost of credit.
• Shop for loans.
• Use credit to beat inflation.
• Time your credit card purchases carefully.
• Take full advantage of rebate programs.
Factors Affecting Credit Costs
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Method used to compute finance charges.
Source of credit
Total amount financed
Length of time you are making payments
Ability to repay debt
Type of credit selected
Collateral or security offered
Interest rates
Economic Conditions
The business’s costs of providing credit
Computing Costs of Credit
• Simple Interest Formula
–I=PxRxT
• Annual Percentage Rate Formula
– (2 x n x f)/P(N+1)
• Credit Card Billings
– Adjusted Balance Method
– Previous Balance Method
– Average Daily Balance Method
Solving Credit Problems
• Major disadvantage to credit is it can
lead to overspending
• Usually does not happen suddenly
– Years of poor planning
– Impulse buying
– Careless budgeting
The 20/10 Rule
• Credit counselors suggest 20/10 Rule
• Total borrowing should not exceed 20%
of your yearly take-home pay
• Don’t take on monthly payment that
total more than 10% of your monthly
take home pay
• Does not apply to mortgages
Credit Counseling
• Private or government-sponsored
services
• Fees usually based on ability to pay
• Help set up budgets and show you best
way to use your income
• Cannot get loans from them
Debt Adjustment
• For people who need stricter discipline
that advice from a counselor
• Charge fees and require contracts
• They take over
– Contact creditors to work out payment plan
– Control your accounts and pay your bills
Credit Repair
• Need to repair your credit rating
• Obtain copies of your credit reports
– Challenge any incorrect information
• Take steps to assure the information
reported about you is correct
– Clear up debts responsibly
– Make payment arrangements
– Request that corrected information be
supplied to credit bureaus
Legal Recourse
• When debtors are in severe debt trouble
and cannot meet their bills, final most
serious step is bankruptcy
– Legal process that relives debtors of the
responsibility of paying their debts or
protects them while they try to repay
• Bankruptcy is a second chance but
carries serious consequences
Purpose of Bankruptcy
Laws
• Two goals of bankruptcy law:
1.Protect debtors by giving them a fresh
start
2.Give fair treatment to creditors
competing for debtors’ assets
• Original federal Bankruptcy Act was
1898
• Bankruptcy Reform Act of 1994
tightened rules for bankruptcy
Types of Bankruptcy
• Voluntary and Involuntary
• Voluntary
– Most common kind
– Occurs when you file a petition with a federal court
asking to be declared bankrupt
• Involuntary
– Occurs when creditors file a petition with the court,
asking the court to declare you bankrupt
– Does not occur often because creditors prefer to
be repaid in full
Voluntary Bankruptcy:
How it Works
• Court notifies newspapers and creditors
• Creditors may file claims
• Court collects your assets & sells your property as
needed
• If assets do not cover all liabilities, each creditor is
given a proportional share
• Remainder of debt is discharged
– Some debts cannot be discharged: taxes, child
support, and alimony
• Once declared bankrupt, cannot file again for six
years
Types of Bankruptcy
• Liquidation or Reorganization
• Chapter 11
– Reorganization for businesses that allows them to
continue operating under supervision
• Chapter 7
– Commonly called straight bankruptcy
– Wipes out most debt for giving up most assets
– See next slide for exempted items
• Chapter 13
– Reorganization form for individuals that allows them
to pay off their debts over three to five years
Federally Exempted Items
(as of January 1, 2001)
1. $15,000 equity in a home or burial plot ($30,000 on
joint bankruptcy)
2. $2,400 interest in a motor vehicle
3. Items worth up to $400 for a single item for household
goods and furnishings, appliances, clothing, and
personal items, for a total of not more than $8,000
4. $1,000 in jewelry
5. $1,500 in tools, books, and other items used in a trade
or business
6. Other property worth up to $800, plus up to $7,500 of
the unused part of the $15,000 exemption for equity in
a home or burial plot
More About Bankruptcy
• If considering bankruptcy, seek legal
advice
– Legal fees range from $150 to $1,500
– Can help you protect some of your assets
• Creditors may ask debtor to repay debt
even after bankruptcy has discharge
them (reaffirmation)
Reaffirmation
• May wish to reaffirm a loan that
someone co-signed for you
• May choose to reaffirm rather than allow
the collateral to be repossessed
• Requires a court hearing and debtors
have 30 days to change their minds
• Creditors may NOT harass debtors
Major Causes of Bankruptcy
• Business Failure
– As a sole proprietor, your personal assets
can be taken for your business
• Emotional Spending
• Failure to Budget and Plan
– Bankruptcy is not limited to poor people
• Catastrophic Injury or Illness
Advantages of Bankruptcy
1. Debts are erased.
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Offers a fresh start.
2. Exempted assets are retained.
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Able to retain certain assets to help start over.
3. Certain incomes are unaffected.
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Bankruptcy does not affect: social security, veterans’
benefits, unemployment compensation, alimony, child
support, disability payments, and payments from
pensions.
4. The cost is small.
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Fees small compared to amount of financial relief
provided.
Disadvantages of
Bankruptcy
1. Credit is damaged.
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Judgment cannot be wiped off your record for 10 years.
2. Property is lost.
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Property you get to keep is limited to the exemptions.
3. Some obligations remain.
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Not ALL debt is erased.
4. Some debts can be reaffirmed.
5. Co-signers must pay.
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If you do not reaffirm a debt that has a co-signer, they will
be forced to pay the debt off.