CONSUMER-CREDIT

Consumer Credit Overview

  • Consumer credit refers to the ability to obtain goods and services with a promise to pay by an agreed date.

  • It plays a significant role in personal financial planning, influencing both financial goals and cash budgets.

  • Pros: Enables the acquisition of expensive items systematically without disrupting the budget.

  • Cons: Poor management can lead to serious financial problems like debt and bankruptcy.

Learning Objectives

By the end of this lesson, you should be able to:

  1. Identify key concepts related to consumer credit.

  2. Analyze the pros and cons of using consumer credit.

  3. Assess different types and sources of consumer credit.

  4. Evaluate personal financial capacity to afford loans and apply for credit.

  5. Create a protective plan for managing credit and debts.

The Three C’s of Credit

  • Character: Refers to the borrower’s history with debt obligations, including credit history and reliability.

  • Capacity: The borrower's ability to handle debt, analyzing income streams and legal obligations.

  • Capital: Current assets available to repay debts, such as real estate or savings.

Personal Credit

  • Personal credit is intended for individual or family use, contrasting with business-related credit.

  • Types of Personal Loans:

    • Unsecured Loan: No collateral required; relies on creditworthiness.

    • Secured Loan: An asset serves as collateral; often the borrower’s home.

Reasons for Borrowing

  • Avoiding Cash Payments: Many prefer to finance significant purchases like cars and homes for affordability.

  • Financial Emergencies: People may need loans for unexpected expenses during unemployment.

  • Convenience: Credit cards offer an immediate purchasing method for a variety of expenditures.

  • Investments: Borrowing can help finance various investment opportunities.

Advantages and Disadvantages of Credit

Advantages

Disadvantages

Convenience in purchasing

Temptation to overspend

Immediate access to goods and services

Reduces future financial flexibility

Less need to carry cash

Potential for over-indebtedness

Affording purchases when funds are low

High-interest costs (up to 18%+ per month)

Online shopping ease

Stress and worry about debts

Grace period on new purchases

Identity theft risk

Emergency funding available

Harder to pay off existing debts

Educational expenses

Negative impact on relationships

Travel reservations made easier

Risk of personal bankruptcy

Rebates on purchases

Damaged personal reputation

Types and Sources of Consumer Credit

  • Open Account Credit: Allows consumers to buy up to a specified limit; can be store-specific or general-purpose (ex: MasterCard, Visa).

  • Financial Institutions: Provide general-purpose credit cards and revolving lines of credit.

  • Retail Stores: Offer branded cards as a loyalty incentive.

Bank Credit Cards

  • Bank credit cards, e.g., Visa and MasterCard, facilitate purchases worldwide.

  • Cash Advances: Possible through banks or convenience checks; interest starts immediately.

  • Interest Rates: Typical rates are 10.5% to 13.5%, but can vary or change after introductory offers; cash advance rates are higher.

  • Additional Fees: Include annual fees and transaction fees for cash advances.

Reward Cards and Their Types

  • Reward Cards: Offer incentives like cash, merchandise rebates, and travel rewards for card use.

  • Automatic Rebates: Given for specific purchases, e.g., auto maintenance or air travel miles.

  • Affinity Cards: Generate funds for sponsoring organizations through consumer usage, typically at higher fees.

Secured and Student Credit Cards

  • Secured Credit Cards: Require collateral and are designed for those with no or bad credit histories.

  • Student Credit Cards: Tailored for college students, promoting convenience and credit history building.

Retail Charge Cards

  • Issued by merchants to encourage customer loyalty, typically requiring full payment monthly.

  • Interest rates are generally higher than standard bank credit cards, often 1.5% to 1.85% monthly.

Loan Contract Essentials

  • Loan Agreement: Documents the specifics of a loan, including collateral, interest rates, and repayment terms.

  • Cosigner: A person who guarantees payment in case of default; they share legal obligations.

  • Acceleration Clause: Allows lenders to demand repayment on defaults.

  • Deficiency Payments Clause: Enables lenders to pursue additional payments if collateral does not cover the owed amount.

  • Recourse Clause: Defines actions a lender can take for loan default, such as wage garnishment.

Steps to Obtain Consumer Credit

  • Credit Application: Available at issuing banks or stores; collects personal and financial information.

  • Credit Investigation: Evaluates the applicant’s risk based on history and current obligations.

  • Credit Bureau: Collects and sells individual borrowing information to lenders.

  • Credit Decisions: Made based on applicant data and credit score evaluation.

  • Computing Charges: Lenders must disclose interest rates and methods for calculating finance charges.

Managing Credit Cards

  • Monthly statements detail activity, previous balance, charges, and payments due.

  • Paying the total new balance avoids finance charges; minimum payments may incur additional interest.