Understanding a Credit Card “Take Charge of Your Finances” Advanced Level
What is Credit? Credit- when goods, services or money is received in exchange for a promise to pay a definite sum of money at a future date Credit is derived from the Latin word “credo” meaning “I believe” Why would a person want to use credit?
Obtaining Credit Lender determines whether to grant the borrower credit based on perceived creditworthiness Borrower requests to receive credit from a lender Borrower is in need of credit Lender- person or organization who has the resources to provide the borrower money Creditworthiness- an individual’s ability and willingness to pay the money back Borrower- person or organization that is receiving the money Why would a lender assess a borrower’s creditworthiness before granting credit?
Paying Back Credit Borrower is usually expected to pay interest in addition to the money borrowed If approved, the borrower will receive money from the lender Borrower pays money back Interest - the price of money Why would a lender charge a borrower interest?
Different Forms of Credit How are these forms of credit different? VS. Open-end Credit Closed-end Credit
Closed-end vs. Open-end Credit Credit extended in advance A one-time loan May be used for a variety of purposes Specified in application
Closed-end vs. Open-end Credit Varies- can be paid in one payment or a series of equal or unequal payments Specified number of equal payments Agreed upon during the application process May be increased Mortgage, automobile, education loans Credit cards
What is a Credit Card? Buy Now, Pay Later Pre-approved credit which can be used for the purchase of goods and services now and payment of them later • May continue to borrow as long as the credit limit (maximum dollar amount loaned) is not exceeded Credit limit varies based upon the cardholder’s perceived creditworthiness
Credit Card Interest • Rate at which interest is charged is referred to as: • Annual Percentage Rate (APR) • The cost of credit expressed as • a yearly interest rate Interest is charged each month the balance is not paid in full
Minimum Payments • Required to make at least a minimum payment each month • Usually only a small percentage (2.5-5%) of the total balance due
Minimum Payments To prepare for her first semester of college, Miranda purchased a new computer for $1000 and textbooks for $500, spending a total of $1500 on her credit card charging 15% APR. How much would Miranda pay in interest if she makes the minimum payment? 1 month $1500 $0 $1500 $1625 $135 1 year $125 $30 11 years $1413 $2913
Advantages & Disadvantages to Using Credit Cards • Convenient payment tool • Useful for emergencies • Often required to hold a reservation • Able to purchase “big ticket” items and spread out payments • Protection against fraud • Opportunity to establish a positive credit history • Online shopping is safer than using a debit card • Possibility of receiving bonuses • Interest can be costly when a balance is revolved • Additional penalty fees may apply • Tempting to overspend • Risk of identity theft • Responsible for lost/stolen cards • Applying for multiple accounts in a short period of time can lower your credit score
What is a Debit Card? What is the difference between a credit card and a debit card? Plastic card which looks like a credit card but is electronically connected to the cardholder’s bank account Money is immediately withdrawn from the cardholders checking account
Creditworthiness Credit card approval depends on borrower’s perceived creditworthiness • How a person uses a credit card affects their creditworthiness Creditworthiness is determined by a credit report and/or credit score
Credit History Credit Report A record of a consumer’s credit history that includes information about credit card use as well as the use of other types of credit CreditScore A number that summarizes an individual’s credit record and history; a numeric “grade” of a consumer’s financial reliability Credit cards can have a positive or negative impact on an individual’s credit history
Positive Credit Card Use Helps develop positive credit history and credit report Proper credit card use Earn a high credit score A high credit score gives the opportunity to have lower interest rates on loans, the privilege to use different forms of credit, and an easier approval process for future credit
Positive Credit Card Use • Examples of positive credit card behaviors: • Paying credit card balances in full every month • Paying credit card bills on time • Applying for only credit cards that are needed • Keeping track of all charges by keeping receipts and using a check register • Checking the monthly credit card statement for errors
Negative Credit Card Use Develops negative credit history and credit report Improper credit card use Lower credit score Consumers with low credit scores have difficulty getting loans, difficulty renting apartments, pay higher interest rates, pay higher insurance rates, and have difficulty obtaining a job
Negative CreditCard Use • Examples of negative credit card behaviors: • Making late credit card payments • Paying only the minimum payment • Exceeding the card’s credit limit (usually triggers a penalty fee) • Charging items that can’t be paid off immediately • Owning too many credit cards
NO Credit If an individual has not used credit, they will not have any information in their credit report Not having a credit report can cause an individual to be denied credit
Credit Card Offers Credit card issuers are required to disclose the terms and fees of credit cards in an easy to read box format Called the Schumer Box Must direct to the Federal Reserve website (http://www.federalreserve.gov/creditcard/)to obtain more information about credit cards
Credit cards may charge many different types of interest rates • Annual Percentage Rate (APR) for Purchases • Interest rate paid for purchases • Multiple interest rates may be listed - final interest rate may depend on creditworthiness of applicant
Fixed vs. Variable-rate APR • Fixed-rate APR- cannot change during the period of time outlined in a credit card agreement • Variable-rate APR- may change depending on other factors (such as economic conditions) What is the APR for Purchases for this credit card offer? 14.99% Is this a variable-rate APR or a fixed-rate APR? Variable-rate APR
Introductory Rate • Introductory rate- APR that may be charged after a credit card is opened • Will have a different APR (usually higher) after the introductory period ends • Not all credit cards have an introductory rate What is the introductory rate for this credit card offer? The introductory rate depends on the creditworthiness of the applicant, but it will be 12.99%, 13.99%, or 14.99%
APR for Balance Transfers & Cash Advances • Balance transfer - act of transferring debt from one credit card to another • Cash advance includes withdrawing cash from an ATM using a credit card • Balance transfer and cash advance fees may also apply (even if the APR is 0%)
Penalty APR and • When it Applies • Discloses the penalty APR and the penalty terms that trigger it to take effect • Penalty APR - interest rate charged on new transactions if the penalty terms in the contract are triggered What is the Penalty APR for this credit card offer? 28.99%
How To Avoid Paying • Interest on Purchases • Explains how you can avoid interest charges by paying credit card bills in full every month • Minimum Interest Charge • Typically range from $0.50 to $2 per month
Credit cards may charge many different types of fees • Set-up and Maintenance Fees • Any set-up and maintenance fees for the card • Annual fee- a yearly fee that may be charged for having a credit card What is the annual fee for this credit card? $20
Transaction Fees • Discloses any transaction fees for the card • Balance transfer fees • Cash advance fees • May be charged in addition to APR
Penalty Fees • Discloses the penalty fees for the card (in addition to Penalty APR) • Late-payment- charged when a cardholder does not make the minimum monthly payment by the due date • Over-the-limit-charged if the account balance goes over the set credit limit
How we calculate your balance • Credit card companies can use one of several methods to calculate the outstanding balance on a credit card What method is used to calculate the balance on this card? Average daily balance (including new purchases)
Loss of Introductory APR If the card has an introductory rate, this area will list how the lower introductory rate can be lost How can the introductory APR be lost on this card? If the cardholder is more than 60 days late in paying the bill What APR will the cardholder be charged if the introductory rate is lost? The Penalty APR of 28.99%
Credit Card Chaos Activity Directions: Two credit card terms will be provided Identify which term is true on your credit card offer Move to the correct side of the room indicated by the arrow on the slide
Credit Card Chaos Variable-rate APR for Purchases Fixed-rate APR for Purchases OR Does your credit card offer have a:
Credit Card Chaos APR for Purchases greater than or equal to 15% APR for Purchases less than 15% OR Does your credit card offer have a:
Credit Card Chaos No Introductory Rate Introductory Rate OR Does your credit card offer have an Introductory Rate?
Credit Card Chaos No Minimum Interest Charge Minimum Interest Charge OR Does your credit card offer have a Minimum Interest Charge?
Credit Card Chaos Annual Fee No Annual Fee OR Does your credit card offer have an Annual Fee?
Credit Card Chaos Late Payment Fee No Late Payment Fee OR Does your credit card offer have a Late Payment Fee?
Credit Card Chaos Balance Transfer Fee No Balance Transfer Fee OR Does your credit card offer have a Balance Transfer Fee?
Credit Card Benefits • Make sure to know all terms and conditions • May charge fees or higher interest rates
How do I obtain a credit card? Credit card companies send pre-approved credit card applications in the mail when the individual has passed their initial credit check
What is a Credit Card Statement? Andrew’s Credit Card Statement Please help Andrew interpret his credit card statement. Outline important information about the card 2009 CARD Act required credit card companies to include specific information about a card account in the statement
Andrew’s Credit Card Statement 2 3 1 4 • Summary of Account Activity • Overview of credit card 6 5 7 8 How much did Andrew charge in new purchases during this credit card billing cycle? 9 10 $529.57
Payment Information • Total new balance • Minimum payment amount • Date payment is due • Payment due dates must be consistent month to month • Monthly statements must be sent at least 21 days before payment is due Andrew’s Credit Card Statement 2 3 1 4 6 5 7 8 What is Andrew’s minimum payment due for this billing cycle? 9 $53.00 10
Late Payment Warning • What will happen if a payment is late- usually additional fees and a higher interest rate Andrew’s Credit Card Statement 2 3 1 4 6 5 • Minimum Payment Warning • Estimate of how long it can take to pay off balance if only the minimum payment is made 7 8 How long will it take Andrew to pay off the balance of his credit card if he only pays the minimum payment? 9 10 10 years
Andrew’s Credit Card Statement 2 3 1 • Notice of Changes to Your Interest Rates • If the Penalty APR is triggered, cardholder must be notified that their rates will be increasing 4 6 5 7 Has Andrew triggered the Penalty APR? 8 Yes, he will pay 28.99% on all transactions made after 4/9/12. 9 10
Important Changes to Your Account Terms • Must be notified of any significant changes at least 45 days before the changes take effect • Any changes can only apply to new charges • Account can be closed before the changes go into effect Andrew’s Credit Card Statement 2 3 1 4 6 5 7 8 Other than implementation of the Penalty APR, will there be any other changes to Andrew’s account terms? 9 10 Yes, his APR for Purchases is increasing to 16.99%.
Andrew’s Credit Card Statement 2 • Transactions • List of all transactions since the last statement • Should be reviewed for errors 3 1 4 6 5 • Fees and Interest Charged • Fees and interest charges must be listed separately 7 8 Did Andrew pay a late fee? 9 Yes, he paid $35.00 for a late fee. 10
Andrew’s Credit Card Statement • Year-to-Date Totals • Total amount paid in fees and interest charges for the current year 2 3 1 4 What is the total amount of interest Andrew has paid in the year 2012? 6 5 $18.27 7 • Interest Charge Calculation • Summary of the different types of transactions 8 9 Why is it important to understand how to read a credit card statement? 10