Following this session, students will be able to:

• describe types of consumer debt and

characteristics

• calculate the cost of purchases made on credit

• describe how credit and debt could affect their

transition from post secondary school

• identify and avoid risks related to credit

A Growing Concern
 Consumer Debt
• In economics, consumer debt is outstanding
debt of consumers, as opposed to that of
businesses or governments.

• Debt which is used to fund consumption

rather than investment.

• Debt incurred on purchase of goods that are

consumable and/or do not appreciate.
Pros
Purchase large items that would take a long time to save for
Build a positive credit history
Pay for unexpected expenses

Cons
Have to budget for repayment
Interest adds to the cost
Repayment limits the money you have for other goals
Failure to repay loans gives you a bad credit history
Debt can be useful in all of the life cycle stages...

It allows consumers to manage their payments

with convenience and take advantage of savings on
consumables.

Provided there is a repayment strategy to retire debt

quickly to avoid interest charges.
Debt Load = The total amount of money you owe

Safe Debt Load

Monthly consumer debt payments relative to net income should be 10% or
less: If monthly net income is $2,000 x 10% = $200 consumer debt
monthly payments.

Outstanding consumer debt relative to net annual income should be 20%

or less: If net annual income $2,000 * 12 = $24,000 x 20%= $4800 in total
outstanding consumer debt.

Total debt (including mortgage) monthly payments relative to net income

should be 40% or less. $2,000 x 40% = $800 Total debt monthly payments.

Debt Ratio
Financial Institutions use gross income to qualify consumers for consumer
debt and mortgage financing.
What borrowing products
Should be counted as consumer
Debt?
•Overdraft Protection

•Credit Cards

•Lines of Credit

•Loans
 Overdraft protection

Bank account feature allowing account holder access to funds

to a set limit below a zero balance.

Interest calculated on amount below zero from withdrawal

until balance is brought back to zero or higher.

Typically highest lending rate at a bank and has a monthly

service fee. ($5 fee plus 19% )
On a $300 overdraft x 14 days x 19% / 365 days = $2.19 + S5.00 monthly fee = $7.19

Short term borrowing facility

Debit card allows consumers to:
transfer money immediately from bank account to the seller's
account. Including internet purchases

Limit spending to what is in their bank account (unless they have

overdraft protection or operate a line of credit like Manulife One)

Consolidate spending through one all purpose account.

Will cost bank account transaction fees
Prepaid cards allow consumers to:

deposit funds to "load them up" for future transactions

pay for purchases in stores or online, or to withdraw cash at automated

banking machines and other locations.

use the card where credit cards are accepted, without borrowing
money.

Reload cards by adding more money to them and continue using them

The fees and the rules for using the cards vary, so investigate them
carefully to find the prepaid card that is right for your needs.
Credit cards allow consumers to:
borrow money from the credit card issuer to pay the seller up to a
prescribed credit limit.

to pay back what you've borrowed by the due date to avoid or

minimize interest charges (grace period) or pay minimum payments
with interest.

Process multiple purchase transactions in Canada without fees (cash

advances or purchases out of country have additional fees). Annual
fees may also apply.
 Credit Card - Cash Advance

A cash withdrawal from an automated bank machine (ABM) or bank

teller from your credit card account.

There is no interest-free period (grace period) on this type of loan

meaning interest is calculated from the date of withdrawal until repaid in
full.

Many credit cards charge a higher rate and have an additional fee for this
service. ($5 fee plus 21%)
On a $300 cash advance x 14 days x 21% / 365 days = $2.42 + S5.00 monthly fee = $7.42

Short term borrowing facility

 Credit Card - Purchases …

Used when credit is more convenient than cash or when a retailer

doesn’t take a cheque.

Used for a variety of small purchases where credit is more

convenient than cash or more cost effective than debit card to bank
account (fees).

Used for online purchases or event ticket purchases where a credit

card is required

Used when travelling to limit the amount of cash you have to carry,
prevent theft

Used to provide expense record keeping, or when card features

provide additional incentive (additional warranties for goods or
insurances on rental vehicles
What is the Annual Percentage Rate (APR)?

The annual rate that is charged for a credit card or debt facility,
representing the actual yearly cost of a loan. This includes
"financing charges" (interest) and any fees or additional costs
associated with the loan such as closing costs or points. Although,
some fees are not considered "financing charges". These vary by
credit card provider.

FCAC legislation to help consumers identify the true cost of

borrowing when taking an offer from an financial institution.
To calculate finance charges (interest ) the provider may use:

The daily balance method which is the sum of the actual balance on each day of
your billing cycle multiplied by the daily rate, which is 1/365th of your Annual
Interest Rate Ex. 14% (14/365 = daily rate = .0384%)

Or

The average daily balance method uses the average of your balance during the
billing cycle. Your average daily is the sum of your balance on each day of the billing
divided by the number of days in the billing cycle. Most commonly used

Average daily balance x Annual Interest Rate x days in billing cycle / 365

Or

One of four other calculations, check with the provider before opening the credit card
(Make payments early and put charges through later in billing cycle)
You will never have to pay any interest if:
1. you always pay the full amount owing on your credit card within the grace
period which is the payment due date;
AND
2. you don’t use your credit card to take cash advances or make cash like
transactions, such as a wire transfer or money order.

The grace period on new purchases must be a minimum of 21 days as long as you
pay the full balance by the current month’s deadline. The 21-day grace period on
new purchases applies even if an outstanding balance has been carried forward
from the previous month.
The interest-free period does not apply to balance transfers or cash advances.
With these transactions, interest is charged right away.
Transaction type How interest is calculated

New purchases You are not charged interest on the

(purchases that appear on your first monthly statement.
monthly statement for the first time)

Previous purchases You are charged interest back to the

(purchases that were listed on a date you made these purchases until
previous statement where the full you make a payment that covers
amount owing was not paid by the the full amount of these purchases.
due date)

Cash advances, balance transfers You are charged interest from the
and “cash-like” transactions date you made the cash advance or
balance transfer until the date you
repay the total amount in full.

You don’t benefit from an interest-

free period on these transactions.
How your payments are applied:

Method one: Highest interest rate to the lowest

Type of transaction Interest rate Portion of balance Amount applied to
each transaction
type
Cash advances 21% $500.00 $500.00
Purchases 18% $1,500.00 $200.00

Method two: Payment applied proportionally

Type of transaction Interest rate Portion of balance Amount applied to
each transaction
type

Cash advances 21% $500.00 $175.00

(25%) (25% of payment)

Purchases 18% $1,500.00 $525.00

(75%) (75% of payment)
Credit Card Repayment

Example:
Amy has an outstanding balance of $2,000.00 on a credit card with an 18%
interest rate. Her minimum payment is $10.00 or 2% of the balance, whichever is
greater. Amy’s minimum payment would initially be $40.00 (2% of $2,000).

If Amy makes only the minimum monthly payment of $40.00 every month,
it would take her 30 years and 10 months to pay off her balance in full AND
she would end up paying $4,931.11 in interest. Amy’s cost of funds should
be considered before she uses the card.

http://itools-ioutils.fcac-acfc.gc.ca/CCPC-CPCC/CCPC-CPCC-eng.aspx
If Amy were to increase her monthly payment to $100.00, she would
take only two years to pay off the balance in full and she would pay
$395.65 in interest.

This example illustrates how expensive it can be to pay only the

monthly minimum amount. Increasing the monthly payment by even
a small amount can drastically shorten the length of time it will take
you to pay off a credit card balance.
What happens if you make a late payment?

Charged interest on the entire amount you owe until you pay it in full.

Late payments could also result in:

penalties, such as an increase in your interest rate

damage to your credit score

your card being cancelled by your issuer.

With so many credit card providers
to choose from … which one is best
for me?
How to choose a credit card
•Shop around and compare:

•Interest rates
•Annual card fees
•Rewards and other benefits
•Rates after an introductory period

•Other charges may include:

• Fees for cash advances and similar transactions
• Charges for going over your credit limit
• Interest rate increases for missed payments
• Annual fee for an additional card
• Foreign currency conversion charges
• Fee for inactive account

http://itools-ioutils.fcac-acfc.gc.ca/STCV-OSVC/ccst-oscc-eng.aspx
If you want to cancel your card

To cancel a credit card account, you must contact your credit card
issuer. Simply cutting the card or not using the card will not
automatically cancel the credit card account.

If left open annual fees could accumulate on the card and become
delinquent, which will reflect poorly in your credit score on credit
bureau.
 Line of credit
A re-usable account that allows you to withdraw funds in cash, by
cheque or by transfer to another account up to a predetermined
limit. Liquid Secured, Home Equity Secured or Unsecured options
available.

Flexible terms giving you access as needed with fixed, variable (%)
or minimum payment options.

Interest is charged at bank prime rate (3%) plus on the amount in

use until you pay it back in full. (Unsecured P+4 with $5
administration fee)
On a $300 withdrawal x 14 days x 7% / 365 days = $ + S5.00 monthly fee = $5.81
Student lines of credit are offered by most financial institutions as
an alternative to OSAP (P+1.5% interest only repayment begins one
year from graduation with favourable repayment terms of up to 12
years).

Unsecured lines of credit are often offered as an alternative to

unsecured term loans for small consumer items –

Medium term borrowing due to lower overall cost of borrowing,

seldom have a monthly fee or transaction fees.
 Payday loans

A short-term loan that you promise to pay back from your next paycheque,
usually within 14 days. Generally able to borrow between 30 and 50 % of
take-home pay.

Lender requires proof of a regular income, a bank account and a permanent

address.

Borrower signs a loan agreement that shows cost of loan (including interest
and fees), and the date that the loan is to be repaid. (Binding contract)

In Ontario $21 per $100 or 547.5% APR

Payday loans are much more expensive than other
forms of credit making them a poor choice for
borrowing short term funds.
Fees vary in each province

A $17 (Manitoba) fee on a two-week, $100 loan is equivalent to

paying 442% annually, and a $25 (Nova Scotia) fee is equivalent to
paying 650% annually.

Amount x 365 x $ fee / term of loan in days /100 = Annual

Percentage Rate

Payday lenders may issue the loan in the form of a prepaid card,
making the loan even more expensive as additional fees may be
required to activate and draw funds from the card
Repayment of loan on the due date:
• post-dated cheque for the total loan amount including fees
• electronically debited to borrowers bank account using an authorization
form that is signed with the loan agreement (pre-authorized debit)
• in person at the location where the loan was granted

Lenders are not allowed to roll over payday loans. This means a lender
cannot extend or renew your payday loan, charging you additional interest
and fees in the process in most provinces.

Consumer right: Cool off period of 1-2 days depending on province you are
borrowing in. ( Allows borrower to cancel agreement by returning funds to
lender at no additional cost)
The costs shown in this example are for illustration purposes only. Calculations of costs are for illustration
purposes and are based on the following assumptions:

•a payday loan costs $21 per $100 or 547.5% APR

•a line of credit includes a $5 administration fee plus 7% annual interest on the borrowed amount
•overdraft protection includes a $5 fee plus 19% annual interest on the borrowed amount
•a cash advance on a credit card includes a $5 fee plus 21% annual interest on the borrowed amount.
Tips to keep debt in check
• Don’t borrow more than you need

• Use savings to reduce amount of loan

• Shop around and compare interest and all fees

• Make payments in full and on time

• Find out whether the loan can be repaid early

• Pay down your debt quickly if you can (with highest cost
debt first)
As a borrower you are obligated to:

• Repay all debts in full and on time

• Borrow only what you can repay

• Understand your loan agreement before you sign it

• Understand your account statements

• Keep records of your loan agreement and repayments

When two or more people borrow money together (co-sign) each joint
borrower is responsible for paying the full loan. The debt is included in
debt servicing ratio of both parties for future borrowing until it is repaid.

Before you co-sign a loan:

• Be sure you can repay the full amount
• Read the loan agreement
• Know your rights and responsibilities
• Consider life insurance to cover the loan amount
 Credit Card Recap

https://www.canada.ca/en/financial-consumer-agency/services/financial-toolkit/credit.html