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					5B         Consumer Credit #2
   Covered so far…
     Advantages and disadvantages of credit
     Types and sources of credit
     Credit capacity (how much you can afford)
     Credit reports and scores
   Still to cover…
     The cost of credit
     Protecting your credit
     Consumer credit protection laws
     Debt problems and bankruptcy
                                                  5-1
                  Objective 4
        Determine the Cost of Credit by
       Calculating Interest Using Various
               Interest Formulas
• Finance charge
  – Total dollar amount you pay to use credit
  – Includes interest costs and fees, such as service
    charges, credit-related insurance premiums, or
    appraisal fees
• Annual Percentage Rate (APR)
  – Percentage cost of credit on a yearly basis
  – Key to comparing costs when shopping for rates
  It is important to shop around for credit
                                                        5-2
       Tackling the Trade-Offs

• Term (length of loan) versus interest cost
  – Longer loan: higher interest rate; total cost
• Lender risk versus interest rate
  – Fixed rate: increases lender risk
• To reduce the lender’s risk and thus the
  interest rate you can:
  – Accept a variable interest rate
  – Provide collateral to secure a loan
  – Provide up-front cash
  – Take a shorter term loan
                                                    5-3
       Secured Credit Cards

Secured Credit Card (or Collateralized
Credit Card) – Backed by collateral in the
form of a savings account opened at the
financial institution that issues the card.


                      Example:
                      Deposit $1,000 with
                      creditor to borrow $1,000
   Calculating the Cost of Credit
• Simple interest
  – Computed on principal only without compounding
  – The dollar cost of borrowing
  – Interest = Principal x Rate x Time
• Simple interest on the declining balance
  – Interest is paid only on the amount of original
    principal not yet repaid
• Add-on interest
  – Interest calculated on full amount of principal
  – Interest added to original principal
  – Payment = Total divided by number of payments to
    be made                                            5-5
    Calculating the Cost of Credit
• Avoid minimum monthly payment trap
  – The longer to pay bill, the more interest you pay
• Avoid credit card fees
  – Annual Fee- fee charged each year just to have a
    credit card (many are increasing; why?)
  – Transaction Fee- fee charged to use a credit card, get
    cash advances, or make transfers
  – Late Fee- fee assessed for making a late payment
  – Bounced Check Fee- fee for NSF check payment
  – Over-the-Limit Fee- fee charged (with cardholder’s
    permission) to exceed credit card limit
                                                         5-6
                  Objective 5
   Develop a Plan to Protect Your Credit
         and Manage Your Debts

       Fair Credit Billing Act (FCBA, 1975)
• Notify creditor of error in writing within 60 days

• Pay the portion of the bill not in dispute

• Creditor must respond within 30 days

• Credit card company has two billing periods, but
  no longer than 90 days, to correct your account
  or tell you why they think the bill is correct
                                                       5-7
          Protecting Your Credit
      Fair Credit Billing Act (FCBA, 1975)

• Disputed item won’t affect your credit rating
  while in dispute
• Can withhold payment on damaged or shoddy
  goods or poor services if purchased with a
  credit card
• Must make sincere attempt to resolve problem
  with creditor
  – Contact merchant first and document it

    Has anybody ever used FCBA procedures?
                                                  5-8
            Co-signing a Loan

   Co-signing means guaranteeing a debt
– Lender would not require a co-signer if borrower
  were a good risk
– Can you afford it if the borrower defaults?
   • If borrower doesn’t pay, cosigner is liable for
     the full amount plus any late or collection fees
   • If payment is missed, creditor can collect from
     the cosigner first
   • Unpaid debts will appear on the cosigner’s
     credit report
                                                        5-9
 Complaining About Consumer Credit

• First: Try to solve the problem
  directly with the creditor
• If that fails: Use formal complaint
  procedures
• Federal government administers
  laws and assists with complaint
  procedures
  – Federal Reserve Board
  – Federal Trade Commission (FTC)
                                        5-10
 Consumer Credit Protection Laws
• Truth in Lending and Consumer Leasing Acts
   – Requires disclosure of the cost of credit (APR)
• Equal Credit Opportunity Act (ECOA)
   – Prohibits discrimination in credit-granting decisions
• Fair Credit Billing Act
   – Provides rules for correcting billing errors
• Fair Credit Reporting Act
   – Provides rules for accessing/correcting credit reports
Your Rights Under Consumer Credit Laws
   – Complain to the creditor
   – File a complaint with the government
   – If all else fails, sue the creditor                      5-11
             Managing Your Debts
         Warning Signs of Debt Problems

• Paying only the minimum balance each month
• Trouble even paying the minimum balance
• Total balance increases every month
• Missing loan payments or paying late
• Using savings to pay for necessities
• Getting second or third payment notices
• Borrowing money to pay old debts
• Exceeding the credit limits on your credit cards
• Denied credit due to a bad credit report
                                                     5-12
          Managing Your Debts

           Debt Collection Practices
The FTC enforces the Fair Debt Collection
Practices Act (FDCPA)
– Prohibits certain practices by debt collectors
  (e.g., early or late calls, calls at work, profane language)

– Does not eliminate legitimate debts; just
  controls the way that debt collectors work
– Does not apply to first-party debt collectors
  (original creditors); only to third-party
  collectors (independent companies)
                                                                 5-13
      Managing Your Debts
Consumer Credit Counseling Services
(CCCS)
– Non-profit and supported by contributions
  from banks, merchants, etc.
– Provides education about credit
– Provides help with spending plan
– Provides debt counseling services for
  those with serious financial problems
– Can develop a debt repayment plan and
  negotiate reduced interest rates
                                              5-14
    Declaring Personal Bankruptcy

 U.S. Bankruptcy Act of 1978
 Chapter 7 = straight bankruptcy
 Chapter 13 = wage earner plan

 Personal bankruptcy is a legal process to distribute
 some or all assets among a person’s creditors due
 to an inability to repay debts.

   Bankruptcy should be the last resort, because of the
 damage to your credit rating; stays in a person’s credit
report 10 years vs. 7 years for other negative information
                                                             5-15
         Chapter 7 Bankruptcy

•   Submit a petition to the court that lists
    assets and liabilities, and pay a filing fee
•   Many, but not all, debts are forgiven
•   Assets surrendered to pay creditors
•   Can keep some assets (home, vehicle,..),
    depending on state/federal exemptions
•   Intent = “A Fresh Start”
•   Most bankruptcies are this type
                                                   5-16
               After Chapter 7
• You May No Longer Owe:
  – Retail store charges
  – Bank credit card charges
  – Unsecured loans
  – Unpaid hospital or physician bills

• You Still May Owe...
  – Certain taxes and fines
  – Child support and alimony
  – Educational loans
  – Debts from willful or malicious acts
                                           5-17
Bankruptcy Abuse Prevention and
Consumer Protection Act of 2005
– Makes it more difficult for consumers to file a
  Chapter 7 bankruptcy (means test)
– Debtors must wait 8 years from their last
  bankruptcy to file again
– Clamps down on “bankruptcy mills” that seek
  to game the system
– Includes provisions for consumer education on
  debt management and financial planning


                                                    5-18
        Chapter 13 Bankruptcy
• Debtor with regular income proposes a plan
  to eliminate his debts over time
• Debtor normally keeps most of property
• Information provided to the court the same as
  under Chapter 7
• Plan may last up to five years
• Debtor makes payments to a court-appointed
  trustee


                                                  5-19
Obtaining Credit after Bankruptcy
• May be more difficult
• But, creditors may consider the inability to
  file bankruptcy again for 8 years
• Could be easier for Chapter 13 filers (who
  have repaid some debt) versus Chapter 7
  filers who made no effort to repay
• Likely to pay high interest rates (lower credit
  score)

                                                    5-20
CARD Act Regulations

• 45 days’ notice before key changes in account
  terms (up from previous 15 days)
• Minimum payment illustrations on credit card
  bills (payoff cost and payment to repay in 36 months)
• “Universal default” practice was banned
• Two-cycle balance billing was banned
• “Teaser rates” must last at least 6 months
• Consumers must “opt in” for over-the-limit fees
• Bills must be mailed 21 days before due date
• No more “late fee traps” (e.g., weekends, 8 am)
   College Students and Credit Cards
              (CARD Act)
• Credit card companies are prohibited from
  offering free merchandise in exchange for credit
  card applications (on campus, campus events)
• No credit cards under age 21 unless cosigner or
  proof of income to make payments
• Maximum amount of credit < 21: greater of $500
  or 20% of annual gross income in most recently
  completed calendar year
• Aggregate limit for ALL credit cards held by
  someone <21: 30% of annual gross income in
  most recent completed calendar year
      Alternatives to Credit Cards for
             College Students
• “Authorized user” on parent’s credit cards and
  reimburse parents
  – Parents see everything you charge; may be fees
  – Does not boost students’ credit much; parent is user
• Joint account with parents
  – Credit history reported to credit bureaus; builds credit
• Secured credit cards
  – Still need to follow CARD Act cosigner/income rules
• Prepaid debit cards
  – Not “credit”; use will not build credit history; high fees
  – Less protection than credit cards if lost or stolen
Wrap Up

• Chapter Quiz
• Concept Check 5-4- Two Key Concepts
  and Credit Terms
• Concept 5-5- Correcting a Billing Error
• Helpful Advice for Others

				
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