Chapter 9 | Credit

Question 1

The economic purpose of credit

Answer 1

Credit afforded a way out of poverty. The role of credit is to give us a temporary and current purchasing power boost.

Question 2

Rules of thumb for credit use

Answer 2

1. Credit should not be used beyond what you can sustain with your level of earnings

Question 3

The household debt paradox

Answer 3

Savings accounts sitting around with large credit balances of up to 40%. People like having big savings accounts for a rainy day but it is better to just pay off the debt

Question 4

Credit Scores

Answer 4

Length of credit history: 15%
Amount you owe: 30%
New credit accounts: 10%
Keep debt to credit ratio below 50%, aim for 30% usage

Question 5

Range of possible FICO scores

Answer 5

300-850. Median in US: 723. <620 = bottom 20%

Question 6

Credit Bureaus

Answer 6

Equifax
Experian
TransUnion

Question 7

Sections of a credit report

Answer 7

Identifying Information
Credit History
Public Records (Bankruptcies, Judgments, Tax Liens)
Inquiries (lists everyone who has asked to see your report)

Question 8

How long does negative information stay on your report?

Answer 8

Most 7 years

Bankruptcies: 10 years

Question 9

Soft hits

Answer 9

From companies that ant to send out promotional materials to a pre-qualified group of people
From current creditors monitoring your account to determine if your perceived risk has increased/decreased

Question 10

Hard hits

Answer 10

The ones you initiate by filling out a loan application form

Only these show up on your report (30-day buffer)

Question 11

Types of loans; advantages and Secured vs Unsecured loans

Answer 11

find this

Question 12

Ways to pay back credit card debt

Answer 12

1. lock your cards away
2. budget to figure out where you stand
3. Pay more than the minimum
4. Move your balances to a lower-interest card
5. Cash in your savings account
6. Borrow against your life insurance
7. See if you can get a home equity loan
8. Look into borrowing from your 401(k)
9. Renegotiate the terms of your loan with creditors
10. Add pertinent information to your credit file
11. If all else fails, file for bankruptcy

Question 13

Consumer Credit Counseling Services Bankruptcy (CCCS)

Answer 13

Promotes itself as a nonprofit debt counseling service providing advice to those in serious debt.
Develops a debt repayment plan based on overall debts and income.
Reasonable monthly fee.
They negotiate with your creditors to lower payment requirements/interest rates.
Cheaper for creditors to negotiate than hire lawyers to take you to court.

Question 14

Credit and Debit card liability

Answer 14

Debit cards: unlimited liability if you fail to report the theft within 2-60 days
Credit Cards: most have a $50 max liability

Question 15

Deadbeats

Answer 15

Always pay on time, never pay interest. Disliked because lenders don’t make money off them

Question 16

Revolvers

Answer 16

Always pay late, pay lots of interest

Creditors love them

Question 17

Credit Rationing and Relationships in Lending

Answer 17

Banks would rather ration credit than raise interest because of moral hazard and adverse selection. Relationships - Lender develops “relationship” with borrower by getting access to soft information. Only works on the margin

Question 18

Moral Hazard

Answer 18

Hidden action - borrower could take the money at a high interest rate and invest in a high-risk project with a high probability of failure without telling the bank

Question 19

Adverse Selection

Answer 19

Hidden information - Borrower knows more about his personal intentions than the bank

Question 20

Credit Card Finance Charges

Answer 20

1. Average Daily Balance including new purchases

Average Daily Balance excluding new purchases

Question 21

Co-signer

Answer 21

The second person who enters into a loan agreement, guaranteeing to make the payments if the borrower defaults. A young person who hasn’t established credit or a person with a poor credit rating might need a co-signer.

Question 22

Security interest

Answer 22

The lender’s right to claim collateral and sell it to recover a defaulted loan balance

Question 23

Acceleration Clause

Answer 23

Allows the lender to require entire repayment of the loan as soon as you are in default