Chapter 11
Consumer Credit
1
Chapter 11.1
Understanding Credit
Objectives
Explain basic principles of credit;
Describe types of credit; and
Analyze the benefits, costs, and
drawbacks of using credit.
2
The Meaning of Credit
Credit – is the supplying of money, goods, or
services at present in exchange for the
promise of future payment
Creditor – business or organization that extends
the credit
Principal – the original amount borrowed
3
Credit Benefits All:
•Buyer – buys the item
•Seller – sells the item
•Bank – makes a profit from interest
4
Types of Credit
•Cash Credit – take out a loan and receive
cash
•Sales Credit – buy now pay later
•Secured Credit – backed by a pledge of
property, something of value as assurance
that the loan will be repaid
Security Interest – when the lender can
take property if the loan is not
repaid
Collateral – the property that is pledged
to guarantee repayment
5
Types of Credit Continued
•Closed-ended Credit – a one-time extension
of credit for a specific amount and time
period
•Open-end Credit (Line of Credit) – can be
used repeatedly
6
Types of Credit
Continued
•Single- Payment – the entire amount due in a
single payment
•Installments – a set portion of the loan
amount that the borrower must pay at
regularly scheduled intervals
Payment Schedule – specifies the dates
on which installment payments are
due and the amount of each
installment
7
Pros and Cons of Credit
Pros of Using Credit
•Temporary Expansion of Income – allows you
to use goods and services before you’ve paid
for them.
•Convenience – making large purchases without
carrying cash, also refunds on returned
items are usually easier
•Financial Responsibility – creating good credit
provides proof to others of your financial
responsibility
8
Pros and Cons of Credit Continued
Costs of Using Credit
•Finance Charges – total cost of using credit
(interest and fees)
•Increased Cost of Merchandise – because
retailers must pay banks to collect on their
credit sales therefore, must offset that
cost.
•Opportunity Cost – are needs and wants that
they must give up because of the expense
of paying back borrowed money + interests
+ fees.
9
Pros and Cons of Credit Continued
Cons of Using Credit
•Security Concerns – taking precautions
against stolen cards
•Impulse Buying – more likely to buy items on
the spur of the moment without careful
consideration
•Overspending – spending more than you can
afford
•Reclaimed Merchandise – the merchant could
take items that you fail to pay for back
10
Deciding When to Use Credit
Alternatives to Using Credit
•Paying by cash or check
•Use a prepaid card or debit
11
Chapter 11.2
Qualifying for Credit
Objectives
Analyze factors that affect the
ability to get credit;
Explain the significance of credit
reports; and
Describe how to establish and
maintain a good credit history.
12
What Lenders to Consider
The Three C’s of Credit
•Character – a person’s reputations
•Capacity – a person’s earning power and ability
to pay debts from regular income
•Capital – items owned, or assets
13
Credit History
– pattern of past behavior in regard to repaying
debt.
14
The Credit Application
•Employment
•Residence
•Home Ownership – Rent / own a home. Home
owner may be more permanent
•Monthly Housing Cost – if there enough
money left to pay bills
•Credit References – checking if you have a
good credit history with other businesses
•Collateral – property that you could use to
secure the loan
•Bank References – checking how much you
have in accounts
15
Equal Credit Opportunity Act
– a federal law ensuring that all consumers are
given an equal chance to obtain credit.
16
Credit Reporting and Rating
Credit Bureau (Credit Reporting Agency) – a firm
that collects information about the
creditworthiness of consumers
Credit Report – a record of particular consumer’s
transactions and payment patterns
Credit Rating – an evaluation of a consumers
credit history
17
Credit Reporting and Rating Continued
Credit Score – a numerical rating, based on credit
report information that represents a
person’s level of creditworthiness
Fair Credit Reporting Act – assures a consumer’s
right to access his or her credit file and
dispute incorrect information
•You should check your credit report once a
year
•Information from your credit file may be
given only to those who have a legitimate
need for it
18
Establishing and Maintaining Credit
Step 1
Opening a checking and savings
account
Step 2
Put a utility bill in your name and pay
it regularly
Step 3
Apply for a credit card from a local
store and pay bills on time
19
Establishing and Maintaining Credit
Cosigner – a person with a strong established
credit history who signs the credit
application and contract along with the
borrower
Secured Credit Card – one that requires you to
keep a savings account as security
A disadvantage is that your money is tied
up and can’t be used for other
purposes
20
Chapter 11.3
Managing Credit Cards
Objectives
Identify sources and types of credit cards;
Evaluate credit card terms and conditions;
Give guidelines for using credit cards
wisely; and
Explain how to resolve credit card billing
problems.
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Types of Credit Cards
•Private Label Cards – can be used only at a single
retailer
•General Purpose Cards (bank card or major
credit card) – can be used at millions of
different business across the country and
around the world
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Types of Credit Cards Continued
•Revolving Credit Cards – has payment options:
pay in full, only a minimum payment, any
amount in between
•Charge Card – charge must be paid in full each
month
23
Credit Card Variations
•Prestige / Status Cards – generally have higher
annual fee, highly promoted to consumers
with established credit
•Co-branded Cards – carry the name of not only a
card network and possibly a bank but also
another company
24
Credit Card Variations Continued
•Affinity Cards – carries the name of a non-profit
or charitable organization
•Smart Card – has a computer chip used for online
shopping
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Comparing Credit Cards Terms
•Annual Fee
•Annual Percentage Rate (APR) – is the annual
rate of interest that is charged for using
credit
•Whether the APR may change
•Variable Rate – means the APR can go up or
down depending on economic factors
•Teaser Rate – a low introductory rate that is
in effect for only a limited time.
26
Comparing Credit Cards Terms Continued
•Computation Method – agreement specifies how
finance charges are computed
•Minimum Payment
•Grace Period – period of time during which the
balance may be paid in full to avoid finance
charges
•Minimum Finance Charge
27
Comparing Credit Cards Terms Continued
•Other Fees – Late payments, cash advances,
credit limit, & returned checks
•Credit Limit – is the maximum amount of credit
that the creditor will extend to the
borrower
•Special Features and Services – discounts,
frequent flyer miles, insurance, etc…
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Finance Charge Computation Methods (pg. 274)
•Previous Balance
•Adjusted Balance
•Average Daily Balance (excluding new purchases)
•Average Daily Balance (including new purchases)
•Two-Cycle Average Daily Balance
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Truth in Lending Act – requires creditors to
adequately inform consumers about credit
terms and costs.
•Lenders must disclose specific information
such as APR, variable rates, & fees.
•They should be clear and easy to read.
30
Using Credit Cards Wisely
•Remember that your credit limit is a maximum,
not a goal.
•Save credit card receipts.
•Set your own limit for how much you want to
charge each month.
•Try to pay the full balance each month to avoid
finance charges.
•If you can’t pay full amount the pay your largest
amount that you can.
•Pay bills on time.
31
Safeguarding Your Card
Credit Card Fraud – Unauthorized use of credit
cards or account numbers.
•Put in safe place
•Keep it in your sight
•Don’t leave without it
•Keep records private
Consumer Credit Protection Act – says the
maximum amount for which you may be held
liable if someone uses the card illegally is
$50
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Reviewing the Monthly Statements
•Monthly
•Online access
•Check the list of transactions
•Verify personal information
•Pay attention to fees
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Resolving Billing Problems
Fair Credit Billing Act – outlines procedures for
settling credit card billing disputes.
•Must write a letter, sent within 60 days
•Name, account number, description, copies
•Use certified mail and get receipt
•They should respond in 30 days and resolve it
in 90 days
•They will investigate
•Can withhold payment for disputed amount but
are required to pay all other expenses.
•If error is confirmed, creditor pays full
disputed amount plus all additional fees
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Chapter 11.4
Taking Out a Loan
Objectives
Discuss sources and types of loans;
Explain provisions that may be
found in loan contracts; and
Describe the loan process from
application to payment.
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Sources & Types of Loans
•Loans from Financial Institutions
Offer a variety of loans; interest rate &
other terms depend on type of loan
oHome Loans – Closed-end installment loans;
home serves as security for loan; term is
usually 15, 20, 30 years
36
Loans from Financial Institutions
Continued
oHome Equity Loan – closed or open-end loans,
used for a variety of purposes; available
whenever homeowner needs/wants to use it
after building equity
oHome Improvement Loan – repair or improve
home; increase it’s value; closed-end loan;
secured by home; five-year term usually
oVehicle Loan – purchase a new or used
vehicle; closed-end; three to five years
37
Loans from Financial Institutions
Continued
oPersonal line of Credit – open-end unsecured
loan; consumer can draw upon it when
needed up to a preset limit
oEducation or Student Loans – pay for higher
education, low interest rates, flexible
repayment schedule
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Loans from Consumer Finance Companies
-businesses that specialize in making small
or personal loans
 Give credit to those who can not get credit
elsewhere
•negative credit history
•low income
•minimal assets
39
Loans from Consumer Finance Companies
Continued
Higher interest rate
They borrow the money and pay interest
Costs include: credit investigation, record
keeping, small loans so they can not absorb
costs like banks
Greater credit risk – higher collection costs
& bad debts
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“Payday” Loans
-cash advance loans
•Write a personal check for amount you want
to borrow
•Gives the borrower the amount minus fees
until borrower’s next pay day
•Fees = a percentage or fee for every $50 or
$100 loaned
•APR extremely high
•Creates a cycle of debt difficult to break
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Insurance Policy Loans
•Borrow against the amount paid in premiums
•No credit investigation
•Policy is the security
•Interest rate lower than bank rates
42
Insurance Policy Loans Continued
•Drawbacks
Pays a benefit to survivors in event of a
death, if an outstanding loan exists, then
company will deduct any amount still owed
before paying benefit
Pay back loan, you might only be charged for
interest
43
Private Loans
– borrow from family or friend
•Guidelines to help pay back
Keep loan small
Interest rate?
Payment plan
Specific about terms-get in writing
Pay promptly
Get a signed receipt
44
Loans from Other sources
•Credit card
•Pawnbroker – trade a valuable item for cash;
holds item for 30 days; then you buy back
your item at higher price then amount
borrowed
•Loan sharks – avoid dealing with unlicensed
lenders who operate illegally and charge
excessive interest
45
Loan Contract Provisions
– shop around; look at APR, payment due
dates, charged for penalty if you pay back
the loan ahead of schedule; down payment
•Balloon Payment Clause – final payment that is
much larger than the other installments
•Acceleration Clause – gives the seller the right
to declare the whole balance due if the
buyer misses even one installment payment
•Add-On Clause – allows additional purchases to
be added to an installment contract
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Getting the Loan
•Apply by phone, online, or in person
•Provide info about income, employment history,
residence, and credit history
•Run a credit check
•Sign the loan contract
•Credit life insurance – optional
47
Getting the Loan Continued
•Right of rescission – right to cancel the loan
within 3 business days if you are using your
home as security; must give notice in writing
•Loan contract outlines payment schedule-pay
installments, online, automatic deductions
from bank account; use payment booklet
48
Chapter 11.5
Handling Debt Problems
Objectives
Analyze the consequences of excess
debt;
Identify warning signs of excess
debt; and
Describe assistance and remedies for
debt problems.
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Dangers of Excess Debt
1. Inability to keep up with normal expenses from
one paycheck to the next.
2. Getting caught in a cycle of taking on new debt
to pay off old debt.
3. Stress over constant financial worries.
4. Serious damage to one’s credit history.
5. Inability to save or invest sufficiently to reach
financial goals.
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Debt Collection Methods
Delinquent – payments are overdue.
Defaults – failure to fulfill the obligations of
the loan, and a warning that the creditor is
taking more aggressive actions toward
collecting the debt.

Repossession – taking away property due to
failure to make loan or credit payments (car)
 Shut-offs – discontinue providing the service
(electricity)
51
Debt Collection Methods Continued
 Collection Agencies – a business that collects
unpaid debt for others.
• This will result in seriously lowering your
credit rating.
• Agencies get a high incentive for being
relentless and aggressive in their
collection tactics.
• Fair Debt collection Practices Act –
protects consumers against abusive
practices of debt collectors.
52
Debt Collection Methods Continued
 Judgments – a court ruling that says the debt
must be paid
 Liens – a claim upon property to satisfy a debt.
 Put on public record
 Appear on the debtor’s credit history
 Lower credit rating
 Garnishment – the legal withholding of a
specified sum from a person’s wages in order
to collect a debt
53
Avoiding Excess Debt
Set reasonable limits on debt
Stay within those limits
Set aside money for emergencies
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Warning Signs
•
•
•
•
Reaching a credit limit on most credit cards
Skipping payments on some bills in order to pay
others
Using cash advances on one credit card to pay
off another
Using credit cards for day-to-day purchases
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Climbing Out of Debt
•
•
•
•
Workings with Creditors – letting them know
that you’re struggling and arranging mutual
solutions
Self-help Measures – making paying off debt
your top priority
Credit Counseling – guidance provided by
trained people who help consumers learn to
live within their means
Debt Consolidation Loans – combines all
existing debt into a new loan to pay off all
previous creditors
56
Bankruptcy: A Last Resort
Bankruptcy – legal relief from repaying certain
debt, most negative information possible on a
credit report, and last 7-10 years.
Types:
• Chapter 7 – sale of all the debtor’s
property except that related to continuing
employment.
• Chapter 13 – debtor proposes a plan which
must be approved and supervised by the
court
57
Rebuilding Credit
 Takes time
 Starting new credit habits
 Avoid high balances on credit
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