Chapter 6
Introduction to
Consumer Credit
McGraw-Hill/Irwin Copyright © 2009 by The McGraw-Hill Companies, Inc. All rights reserved.
Chapter 6
Learning Objectives
2
1. Define consumer credit and analyze its advantages and
disadvantages
2. Differentiate among various types of credit
3. Assess your credit capacity and build your credit rating
4. Describe the information creditors look for when you
apply for credit
5. Identify the steps you can take to avoid and correct
credit mistakes
6. Describe the laws that protect you if you have a
complaint about consumer credit
What is Consumer Credit?
3
Objective 1: Define consumer credit and analyze its
advantages and disadvantages
Credit is an arrangement to receive cash, goods or services
now, and pay for them in the future
Consumer credit is the use of credit for personal needs,
except a home mortgage, by individuals and families
What is Consumer Credit?
(continued)
4
Three ways consumers can finance purchases
Draw on their savings
Use present earnings
Borrow against expected future income
Trade-offs with each alternative
Consumer credit: Major economic force
What is Consumer Credit?
(continued)
5
USE AND MISUSES OF CREDIT
Before you use credit for a major purchase, ask yourself
some questions
Do I have the cash for the down payment?
Do I want to use my savings for this purchase?
Does this purchase fit my budget?
Could I use the credit I’ll need in some better way?
Can I postpone this purchase?
What are the opportunity costs of postponing this
purchase?
What are the dollar and psychological costs of using
credit for this purchase?
What is Consumer Credit? (con’t)
6
ADVANTAGES OF CREDIT
Current use of goods and services
Permits purchase even when funds are low
A cushion for financial emergencies
Advance notice of sales
Easier to return merchandise
Convenient when shopping
What is Consumer Credit?
(continued)
7
MORE ADVANTAGES OF CREDIT
One monthly payment
Safer than cash
Needed for hotel, car reservations and shopping online
Can take advantage of float time/grace period
May get rebates, airline miles, or other bonuses
Indicates financial stability
What is Consumer Credit?
(continued)
8
DISADVANTAGES OF CREDIT
Temptation to overspend
Failure to repay loan may lead to loss of income
It does not increase total purchasing power
Credit costs money
Types of Credit
9
Objective 2: Differentiate among various types of
credit
Closed-End Credit
One-time loans for a specific purpose that you pay back
in a specified period of time, and in payments of equal
amounts
Mortgage, automobile, and installment loans for furniture,
appliances and electronics
Open-End Credit
Use as needed until reaching line of credit max
Credit cards, departments store cards, bank credit cards,
incidental credit
You pay interest and finance charges if you do not pay
the bill in full when due
Types of Credit (continued)
10
CREDIT CARDS
Eight out of ten U.S. households carry one or more credit cards
One-third are convenience users- pay balances in full each month
Two-thirds are borrowers, carrying a balance over, paying finance
charges
Some use cards for cash advances – expensive
Co-branding - linking a credit card with a business offering
rebates on products and services
Smart cards have an imbedded computer chip
Debit cards: similar impact as writing a check
Types of Credit (continued)
PROTECTING YOURSELF AGAINST
DEBIT/CREDIT CARD FRAUD
11
Sign new cards when they arrive
Treat cards like money - keep them secure
Shred anything with your account number on it
Don’t give your number over the phone unless you initiate
the call, and don’t put it on postcards
Get card & receipt after every transaction: compare receipts
to bills when they arrive, checking for errors
Notify the card issuer if you don’t get your billing statement,
or if your card is lost or stolen
Check credit report
Types of Credit (continued)
12
When You Make Purchases Online
Use a secure browser
Keep records of online transactions
Review monthly statements-can do so online
Read policies of the websites you visit concerning refunds, site
security, and privacy
Keep personal information private unless you know who is
gathering it and why
Shop at businesses you know and trust
Never give out your password to anyone online
Don’t download files sent by strangers
Types of Credit (continued)
13
TRAVEL AND ENTERTAINMENT CARDS
These cards are not really credit cards
Monthly balance is due in full
American Express recently started issuing credit cards
Types of Credit (continued)
14
HOME EQUITY LOANS
Based on the difference between current market value of
your home and the amount owed on the mortgage
Borrow up to 85% of the value of the home
It is set up like a revolving line of credit
Measuring Your Credit Capacity
15
Objective 3: Assess your credit capacity and build
your credit rating
Before you take out a loan, ask yourself
Can you afford the loan?
What do you plan to give up in order to make the
payment? Are you prepared to make this trade-off?
Measuring Your Credit Capacity
16
GENERAL RULES OF CREDIT CAPACITY
Debt Payments-to-Income Ratio
monthly payments*
net monthly income
Consumer credit payments should not
exceed a max of 20% of your net income
*Not including house payment which is a long-term liability
Measuring Your Credit Capacity
(continued)
17
GENERAL RULES OF CREDIT CAPACITY
Debt To Equity Ratio
Total liabilities = Should be < 1
net worth*
*Excluding home value
Measuring Your Credit Capacity
(continued)
18
CO-SIGNING A LOAN
The creditor will give you a notice that tells you…
You are being asked to guarantee the debt, so consider
if you can afford it if the borrower defaults
If the borrow does not pay, you may have to pay up to
the full amount and also any late or collection fees
If a payment is missed the creditor can collect the debt
from you without first trying to get it from the
borrower
Measuring Your Credit Capacity
(continued)
19
If you do co-sign, consider...
Can you afford to pay the loan? If not, your credit
rating could be damaged
Liability for this debt may prevent you from getting
other credit that you want
If you put up collateral, you could lose it if the loan
goes into default
Check your state’s law to learn about cosigner’s
rights
Request that a copy of overdue payment notices be
sent to you
Measuring Your Credit Capacity
(continued)
20
BUILDING AND MAINTAINING YOUR CREDIT
RATING
Limit your borrowing to your capacity to repay
Live up to the terms of contracts
Check to see what is in your credit report
CREDIT BUREAUS
Credit bureaus collect information
Measuring Your Credit Capacity
(continued)
21
WHO PROVIDES DATA TO CREDIT BUREAUS?
Bureaus get information from banks, finance companies,
credit card companies, merchants, other creditors
Measuring Your Credit Capacity
(continued)
22
Fair Credit Reporting Act
This act regulates the use of credit reports
Credit card companies must correct inaccurate or incomplete
information
Only authorized persons have access to your report
Adverse data can be reported for seven years; bankruptcy for
ten years
Measuring Your Credit Capacity
(continued)
23
What If You are Denied Credit? Exhibit 6-6
Check your credit file at the credit bureau
If you believe reasons for denial are invalid: file suit and/or
notify federal enforcement agency
Ask the creditor to clarify reason for denial; if you believe
the denial is valid . . .
Apply to another creditor with different standards
Take steps to improve your creditworthiness
You have the right to provide a 100 word explanation in
your file
Applying for Credit
24
Objective 4: Describe the information creditors look
for when you apply for credit
What Creditors Look For: 5 Cs
Character - Do you pay bills on time?
Capacity - Can you repay the loan?
Capital - What are your assets
and net worth?
Collateral - What property do you have to pledge that the
lender can repossess if you default on the loan?
Conditions - What economic conditions could affect your
ability to repay the loan?
Avoiding and Correcting Credit
25
Mistakes
Objective 5: identify the steps you can take to avoid
and correct credit mistakes
Fair Credit Billing Act
Notify creditor of error in writing within 60 days
Include your explanation of the error and your account
number to the billing inquiries address
They 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
Your credit rating is not affected while item is in dispute
26
Avoiding and Correcting Credit Mistakes
(continued)
Fair Credit Billing Act
You can withhold payment on damaged or shoddy goods or
poor services if you have paid for them with a credit card, if
you make a sincere attempt to resolve the problem with your
creditor
Avoiding and Correcting Credit Mistakes
27
(continued)
What if Your Identity is Stolen?
Contact the fraud department of each of the three major credit
bureaus; tell them to flag your file with a fraud alert,
including a statement that creditors should call you for
permission before opening any new accounts in your name
Contact creditors to check for accounts that have been
tampered with or opened fraudulently
Complaining About Consumer Credit
28
Objective 6: Describe the laws that protect you if you have
a complaint about consumer credit
First try to solve the problem directly with the creditor
If that does not work there are
more formal complaint procedures
There are a variety of consumer credit protection laws and
federal agencies who administer and assist with complaint
procedures
Central Credit Reference
29
Information System (CCRIS)
The Credit Bureau in Malaysia is established under the Central Bank of
Malaysia Act 1958. It has been in operation since 1982. Like all other
credit bureau in the world, the Credit Bureau essentially collects credit
information on borrowers from lending institutions and furnishes the
credit information collected back to the institutions in the form of credit
report via an on-line system known as Central Credit Reference
Information System (CCRIS).
The financial institutions extend credit facilities to borrowers either for
business or personal purposes. To facilitate these institutions to make
assessments and decisions on credit applications, the financial institutions
would require up-to-date and accurate information on their prospective
borrowers. Therefore, the information in the credit report could assist the
financial institutions to make informed decisions on credit applications.
Central Credit Reference
30
Information System (CCRIS)
The information reported to the Credit Bureau is
housed in a computerised database system known as
the Central Credit Reference Information System
(CCRIS). At present, the database system contains
credit information on about 9 million borrowers in
Malaysia.
CCRIS automatically processes the credit data
received from the financial institutions and
synthesises the information into credit reports, which
can be made available to the financial institutions
upon request.
CTOS
31
CTOS stands for Credit Tip-Off Service, the company itself
(CTOS Sdn Bhd) is categorized as Credit Agency.
CTOS is essentially an electronic ‘archive’ of information
collated from gazettes, newspapers, court notices, and searches
at the relevant statutory bodies. A 'credit lead' information
system.
In general, CTOS report provide information on bankruptcy,
summons of any individual in Malaysia. Due to this, it is
important for anyone to ensure their CTOS report is clear. This
is typically the first piece of advice given to anyone because it
is so important to understand how you appear to creditors,
while also ensuring that your report is actually accurate.
