Download Credit: The Promise to Pay

Essential Standard 5.00
1
UNDERSTAND BUSINESS CREDIT AND RISK
MANAGEMENT.
Objective 5.01
2
UNDERSTAND CREDIT
MANAGEMENT
Topics
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 Main types of credit
 Common advantages and disadvantages of
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businesses using credit
Cost of credit
Main factors examined for granting credit
Credit documents
Credit regulations
Credit assistance
How Credit Cards Are Made
4
 http://www.youtube.com/watch?v=gaduUHFrScI
 The Credit Card Song by Old Man Pie
 http://www.youtube.com/watch?v=2JwdIWjVHaU
&safety_mode=true&persist_safety_mode=1
 Simpson’s Advertisement
 http://www.youtube.com/watch?v=jBaPx3sym0I&fe
ature=related
Tips for Using Your Credit Card
5
 YouTube Video
 Tips for Using Your Credit Card
 http://www.youtube.com/user/CreditMadeClearer


What is credit? Loans, Mortgages and Overdrafts
http://www.youtube.com/watch?v=cjrG1QznxLY&safety_mod
e=true&persist_safety_mode=1
Obtaining Credit
6
 http://www.youtube.com/user/CreditMadeClearer#
p/u/10/P0h_12RMWgk
Who uses credit:
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Consumer Credit
Commercial Credit
 Credit used by people
 Credit used by
for personal reasons.
businesses.
Main Types of Credit
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 What is credit?
 Credit is an agreement to obtain money, goods or
services now in exchange for a promise to pay in
the future.
 Main types of credit
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Charge Accounts
Credit Cards
Installment Credit
Consumer Loans
Main Types of Credit continued
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Charge account is a contract between creditors
and debtors. Charge accounts allow debtors
(customers) to receive goods or services from
suppliers (creditor) and pay for them at a later
date.
 Deadbeats: People or businesses who pay off
the balance of their credit card bill every month
with no interest expense.
 You
want to be a deadbeat!!!!!
Credit Cont.
10
Charge Accounts – most common type of short- term or
medium-term credit.
 Regular Charge Accounts
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Revolving Charge Accounts
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Require that you pay for purchases in full within a certain
period of time. Example: A charge account with an electrician
who re-wired a house
Allows you to borrow or charge up to a certain amount of money
(credit limit) and pay back a part or the entire balance each
month. Example: A charge account with Duke Power utility
company
Budget Charge Accounts

Allows you to pay for costly items in equal payments spread out
over a period of time (6 months same as cash). Example: Home
equity credit line
Main Types of Credit continued
11
Credit cards allow debtors (customers) to receive
goods and services from suppliers (creditor) and
pay for them later.

Types and examples:

Bank


Travel and entertainment
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
American Express and Diner’s Club
Oil company

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MasterCard and VISA
BP Oil and Exxon
Retail store

Belk and American Eagle
Credit Examples cont.
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Single-Purpose
Can only be used to buy goods or services at the business that
issued the card.
 Examples: JC Penney, Sears

Multipurpose
Similar to a revolving charge account.
 May be used at several locations.
 Examples: Visa and Master Card

Travel and Entertainment
Similar to regular charge accounts.
 Must be paid in full each month.
 Example: American Express

Main Types of Credit continued
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 Installment sales credit is a contract issued by the seller
that requires intermittent payments at specified times such
as bi-weekly or monthly.

Example

Rooms To Go Furniture Store
 Consumer loans require debtors to make monthly
payments of a specified amount for a period of time.

Example

Borrowing $1,000 from a bank and agreeing to make $100 payments for ten
months
Credit
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Types:

Student, mortgage, automobile, etc.
 Secured vs. Unsecured
 Secured loans are backed by collateral (help guarantee
the repayment of a loan).
 Closed vs. Open Ended
 Closed-end credit is used for a specific purpose and
involves a definite amount of money.
 Open-end credit gives you a certain limit on the
amount of money you can borrow.
 Cosigner
 Person responsible for the repayment of a loan if the
original party does not pay.
Business/Gov. forms of Credit
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Bonds – written promise to repay a loan with
interest on a specific date. The buyer of the bond is
considered the creditor.
 Corporate Bonds

Usually used to finance buildings and equipment.
 Municipal Bonds
 State and local governments use these to finance projects.
 Savings Bonds
 Sold by federal government.
Other Sources of Credit for Businesses
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 Small Business Administration
 Offers a number of financial, technical, and management
programs to help businesses.
 Credit Bureau
 An agency that collects information on how promptly
people and businesses pay their bills.
 Information retrieved from banks, finance companies,
stores, credit card companies, and other lenders.
Definitions
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 Trade credit: a company receives goods from a
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
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supplier and pays for them later
Loan credit: borrowing money for a specific purpose
Sales credit: Charge a purchase at the time you buy a
good or service
Finance charge: Total $$ cost of credit including
interest and all charges
Down payment: payment of part of the purchase
price usually made at the time of purchase
Definitions
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 Installment loan: borrower agrees to make monthly
payments in specific amounts over a period of time
 Promissory note: a written promise to repay based
on a debtor’s excellent credit history
 Collateral: aka security; property that is used as
security for a loan; the lender has the right to sell the
property to get back the amount of the loan if you
default or don’t repay it
 Cosigner: person responsible for payment of the note
if the signer doesn’t pay as promised
Who Uses Credit?
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Terms
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 Review what is Credit :
 Privilege of using someone else’s money for a period of time.
 Creditor
 One who sells on credit or makes a loan.
 Debtor
 Anyone who buys on credit or receives a loan.
 Obligated to pay back the loan.

Usury Laws :Restricts the amount of interest that can be
charged.
Why Use Credit?
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 Convenience
 Immediate Possession
 Emergencies
Common advantages and disadvantages of
businesses using credit
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Advantages
Disadvantages
 Establishing favorable
 Experiencing theft of
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credit rating
Keeping business separate
from personal expenses
Minimizing record-keeping
and receipts
Keeping track of what
employees are spending
Earning rewards
Growth of the Economy

Buying goods will help the
economy expand.
customer
records/databases
 Overbuying by
employees
 Overusing credit
 Credit Fees

Interest paid on balance
Results of Overuse
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 Repossession = Loss of property because of failure to
repay loan.
 Bankruptcy = Legal procedure for liquidating a
business (or property owned by an individual) which
cannot fully pay its debts out of its current assets.
Cost of Credit continued
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 Using someone else’s money has a cost.
 Interest is the cost of using someone else’s money.
 Factors for computing interest include:

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Principal, P = Amount of the loan
Interest Rate, R = Percent of interest charged or earned.
Time, T = Length of time for which interest will be charged, usually
expressed in years or parts of a year.
 Formula for computing simple interest:
I =
P x R x T
= 500 x 7% x 3 months
Cost of Credit continued
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
How is time determined for a loan for each of the following
lengths?

Years =multiply by the number of years
Months=multiply by the portion of the year. Such as 2
months =2/12
Days=portion of the year such as 30/360
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 How is the maturity date calculated? Months-the
maturity date is the same day of the month that the loan
was made.
 Days-Determine the day the loan was made, and then
count the exact number of days of maturity.
Business Credit Cont.
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 How is a decreasing loan payment calculated?

Interest is calculated on the amount of the loan that is unpaid.
 What is disclosed in Annual Percentage Rate (APR)?
Percentage cost of credit
Service fees
MATH
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 Calculate Maturity Date Activity
 Converting Time and Percents Activity
 Simple Interest Activity
 Installment Interest Activity
Main factors examined for granting credit
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 Creditors examine several factors about potential
debtors when deciding whether to grant them credit,
such as…….
Main Factors Examined for Granting Credit
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The Four C’s of Credit
Character
Capital
Capacity
Collateral
The 4 C’s of Credit
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 Character is
 Honesty to pay a debt when it is due.
 How past debt obligations were handled.
 Capacity refers to how much debt can comfortably
be handled.
 Capital is current available assets that could be
used to repay debt if income was to become
unavailable.
 Collateral is security to help guarantee that the
creditor will be repaid.
Credit Worthiness Terms
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
Credit History


Capital
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How much you have beyond what you owe.
Credit Limit


Indicates the amount of debt you have and your
payment history.
Maximum amount you can borrow.
Cosigner

Person responsible for a loan if you, the original
debtor, do not pay.
Process of Obtaining Credit
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1.
2.
3.
4.
5.
6.
Credit Application
Documentation
Processing
Underwriting
Closing
Funding
Main Factors Examined for Granting Credit
continued
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Credit Application:

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A form used by lenders to obtain information from
applicants in order to make a decision about granting credit.
Should be filled out completely, accurately and honestly.
Requires signature of applicant, which indicates provided
information is true.
Main Factors Examined for Granting Credit
continued
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 Credit data make up the information that
applicants provide on credit applications.
 Documentation of credit data may be verified by:
 Employers (former and current)

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Financial institutions
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Type of data: Employment dates and salary
Type of data: Saving or checking account information
Personal references

Type of data: Manner how personal business is conducted
Main Factors Examined for Granting Credit
continued
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 Information provided by Credit Bureaus
 Credit bureaus sell lenders credit information about
credit users such as debt records, payment history, and
if any action has been taken to collect overdue bills.
Credit documents:
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 Checking loan features and credit activities for errors
minimize potential credit problems. Two commonly
used credit documents that assist with minimizing
credit problems are:


Credit Contract
Statement of Account
Credit Documents
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Credit contract


Credit contracts are legal binding documents that allow
debtors to use credit to obtain goods and services.
Debtors should know the content of the credit contract before
signing such as:
Amount of finance charges
 Repairs covered
 Add-on features
 Reduction of finance charge if contract paid in full prior to ending
date
 Receive the copy of the contract
 Repossession conditions

Credit Documents continued
38
Statement of account
Comes once credit is granted and purchases are made
on credit.
 Comes monthly and includes summary of transactions
completed during the billing period.
 What kind of information may be found on the statement
of account?
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Balance due
Amounts charged or credited during the billing period
Current balance
Minimum amount of next payment
Underwriting
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 Reviewing loan for soundness.
 Consumer Reporting Agencies
 Company that compiles and keeps records on consumer
payment habits.
 Used to evaluate creditworthiness.
Examples:
Equifax, Experian, and TransUnion.
Closing a loan and funding
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 REAL ESTATE
 Meeting with lending financial institution and attorney to sign
all documents
 Attorney files documents indicating a lien on the property
 3 Days after closing, funds are released
 AUTO or PERSONAL
 Car dealership or lending financial institution will process all
documents indicating a lien on the property
 Financial institution processes all documents
Credit regulations and assistance options
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 Credit Regulations: exist to protect rights of credit
applicants and rights of credit users from fraudulent
and unfair practices.
Credit Regulations
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 Truth in Lending Law requires lenders to
reveal the cost of credit (APR and finance charge)
and terms before signing an application or
contract.

Equal Credit Opportunity Act allows credit
applications be judged on financial responsibility
of credit applicants. The three areas of
responsibilities are low income, large debts, and
a poor payment record.
Credit Regulations continued
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 Fair Credit Billing Act requires creditors to
correct billing mistakes promptly.
 Fair Credit Reporting Act allows individuals to
scrutinize any information shared by credit reporting
agencies with potential creditors and employers.
Individuals also may correct any incorrect credit
information.
Credit Regulations continued
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 Consumer Credit Reporting Reform Act
requires that the credit reporting agency must be
able to prove that credit information they provide is
accurate.
 Fair Debt Collections Act prohibits deceptive,
harassing, and unfair practices for collecting debt
from debtors.
Credit Regulations continued
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Credit Card Accountability, Responsibility, and
Disclosure Act is an amendment to the Truth in
Lending Act. The act institutes fair and transparent
practices of providing credit.
FTC: Federal Trade Commission enforces laws on
credit
Cost of Credit Terms
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 Interest Rates
 Percentage that is applied to debt.
 Principal
 Amount of money borrowed.
 Time Factor
 Length of time for which interest will be charged.
 Maturity Date
 Date on which a loan must be repaid.
Terms Cont.
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 Finance Charge or Fees
 Cost of credit stated in a dollar figure
 Annual Percentage Rate (APR)
 Indicates how much credit costs on a yearly basis.
 Grace Period
 Time period during which no finance charges will be added
to an account.
 Cash Advance
 Borrow money on a credit card.
Credit Regulations continued
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Some practices instituted by the CARD Act are:

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Inform customers of increase of cost of credit not less than 45
days prior to effective date.
Provides information about how long it would take to pay off a
loan if minimum payments are paid.
Protects potential credit consumers under the age of 21, who
must have a cosigner with a means to repay debt of the
consumer.
Process of Obtaining Credit
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1.
2.
3.
4.
5.
6.
Credit Application
Documentation
Processing
Underwriting
Closing
Funding
Credit assistance
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 is available to minimize or eliminate credit problems
of credit users.
 Credit assistance available includes:
Debt repayment plan
 Credit counseling
 Bankruptcy

Credit Assistance continued
51
 Debt repayment plan
 An agreement between a creditor and debtor that
allows the debtor to pay off a debt with more
manageable payment plan.
 Credit counseling
 Provides information on actions to take in order to
manage debt.
 Bankruptcy
 May be used by debtors to reduce debt or amount owed
to creditors. Legal process in which some or all of the
assets of a debtor are distributed among the creditors
because the debtor is unable to pay his or her debts.
Types of Bankruptcy
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 Chapter 7 (Liquidation)
 Draw up a petition listing assets and liabilities.
 Most of the debtor’s assets are sold to pay off creditors.
 Cannot release debt on alimony, child support, taxes,
fines, educational loans, and court fees.
 Chapter 11 – (Reorganization) Businesses Only
 Chapter 11 bankruptcy reorganization: what is it and how
does it work
 Chapter 13
 Propose a plan for using future earnings and assets to
eliminate debts over a period of time.
Effects of Bankruptcy
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 Kept on file with credit bureau for 10 years.
 Affects credit rating, future extensions of credit, loss
of jobs, etc.
 YouTube - Credit Card reform too late for one Small
Business Owner