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Using Consumer Loans

Using Consumer Loans. #7. Learning Goals. Using Consumer Loans. Different Types of Loans. Student Loans. Federally sponsored loans:. Exhibit 7.1 Federal Government Student Loans. Consumer Loans. Single Payment Specified period Lump sum payment due Installment

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Using Consumer Loans

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  1. Using Consumer Loans #7

  2. Learning Goals

  3. Using Consumer Loans

  4. Different Types of Loans

  5. Student Loans Federally sponsored loans:

  6. Exhibit 7.1 Federal Government Student Loans

  7. Consumer Loans Single Payment Specified period Lump sum payment due Installment Fixed, scheduled payments • Fixed • Interest rate and payments remain the same • Variable Interest Rate • Interest rate and payments change periodically

  8. Where Can You Get Consumer Loans?

  9. Managing Your Credit Compare loan features Finance charges Loan maturity Total cost of transaction Collateral Other considerations such as payment date, prepayment penalties, late fees Shop carefully before borrowing!

  10. Keep Track of Your Credit Keep inventory sheet of debt Know total monthly payments Know total debt outstanding Check your debt safety ratio: • Total monthly consumer debt pmts • Monthly take-home pay

  11. Single-Payment Loans

  12. Finance Charges and the APR Discount Method -Interest (calculated on principal) is subtracted from loan amount and remainder goes to borrower Finance charges paid in advance APR will be higher than stated interest rate Simple Interest Method – Calculated on outstanding balance

  13. FS = P x r x t Where FS = finance charge using simple interest method P = principal loan amount r = stated annual interest rate t = term of loan Simple Interest Method Example-Calculate finance charges and APR on a $1000 loan for 2 years at 8% interest rate (Assume interest is the only finance charge)

  14. Using the Simple Interest Method Interest = Principal x Rate x Time = $1000 x .08 x 2 Finance Charge = $160 • Receive full loan amount ($1000) but pay back $1600(loan amount + finance charge) • Most consumer friendly method

  15. Simple Interest Method APR = ($160 2) $1000 Annual Percentage Rate = Average annual finance charge Average loan balance outstanding APR is same as stated rate = 8%

  16. Discount Method Interest = Principal x Rate x Time = $1000 x .08 x 2 Finance Charges = $160 Calculate same as simple interest method but subtract finance charges from loan amount ($1000 – $160) Borrower receives $840 now, pays back $1000

  17. Discount Method APR = ($160  2) = $80 ($1000 – $160) = $840 = 9.52% Annual Percentage Rate = Average annual finance charge Average loan balance outstanding

  18. Installment Loans

  19. Calculating Finance Charges on Installment Loans Simple Interest Method Calculated on outstanding(declining) balance each period Add-On Method Finance charges calculated on original loan balance added to principal

  20. Example Calculate the finance charges and APR on a $1000 loan to be repaid in 12 monthly installments at an annual interest rate of 8% (Assume interest is the only finance charge) Calculating Finance Charges on Installment Loans

  21. Calculator (Set on 12 P/YR and END mode) 1000 +/- PV 8 I/YR 12 N PM = $86.99 Calculating Finance Charges on Installment Loans Use Exhibit 7.4 (Table calculated using $1000 loan) Find payment for 12 months at 8% interest: $86.99

  22. Simple Interest Method

  23. Simple Interest Method $86.99 x 12 = $1,043.88 Loan amount = – 1,000.00 Interest paid = $ 43.88 Total amount paid over 12 months

  24. Add-On Method Calculate finance charges on the original loan amount $1000 x .08 x 1 = $80 Add these charges to principal $80 + $1000 = $1,080 Divide this amount by the number of periods to arrive at payment $1,080  12 = $90.00

  25. Add-On Method Use financial calculator to figure APR for the Add-On Method using payment just determined and solve for interest Set on 12 P/YR and END mode: 1000 +/- PV 90.00 PMT 12 N I/YR 14.45%

  26. Other Loan Considerations

  27. Comparative Finance Charges and APRs ($1000, 8%, 12 mo)

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