BASIC FINANCIAL LITERACY. Economics Marshall High School Mr. Cline Unit Three DD

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1 BASIC FINANCIAL LITERACY Economics Marshall High School Mr. Cline Unit Three DD

2 * Nothing So Simple Has Ever Been So Hard Reconciling their account on a regular basis could have helped prevent this! Credit is the ability to borrow money; when you borrow money on credit, you get a loan and promise to pay it back with a little extra (interest). Having good credit can make it easier to do things such as: Borrow money Get approved for a credit card Rent an apartment or house Qualify for a car loan Get better interest rates on credit cards and loans Get better car insurance rates Avoid security deposits on utilities

3 A person's creditworthiness is typically measured with a credit score. The most common credit score is the FICO score, named after software developer Fair Isaac and Corporation. A person's FICO scores are provided to lenders by the three major credit reporting agencies - Experian, TransUnion and Equifax - to help lenders evaluate the risks of extending credit or loaning money to people. Lenders typically review the Four Cs when making a decision to grant a loan: Capacity - your present and future ability to meet your payment obligations Capital - the value of your assets and your net worth Character - your payment history Collateral - the property or assets that will secure the loan

4 When evaluating the Four Cs, the loan officer may ask you questions such as: Are you employed? How much money do you earn each month? What are your monthly expenses? How much money do you have in bank accounts? Have you had credit in the past? How many credit cards do you have? What collateral can you offer? You can be denied for a loan if you are unable to demonstrate that you have capacity, capital, character and collateral.

5 For example, you may get turned down if you have: A history of making late payments Filed for bankruptcy Had property repossessed or foreclosed A court order requiring you to pay money to a lender or creditor Your credit score affects your ability to qualify for different types of credit and varying interest rates. In general, the higher your credit score, the better your loan terms. The following charts details the annual percentage rates (APRs) available to people with different credit number ranges, along with the corresponding monthly payments and total interest paid. The chart assumes a 30-year fixed mortgage for $150,000 (interest rates current as of 3/26/13.

6 FICO Score APR Monthly Payment Total Interest % $653 $85, % $672 $91, % $687 $97, % $705 $103, % $742 $117, % $791 $134,855

7 These figures clearly show how your credit score can impact the interest you pay on a loan: a better credit score can save you tens of thousands of dollars on major loans such as a mortgage. To view different scenarios, visit (you can select the type of loan, the state where you live, the loan principal amount and different FICO Score ranges). Unfortunately, we don't start with a clean slate as far as credit scores are concerned. Individuals have to earn their good numbers, and it takes time. According to data compiled by Credit Karma, there is a correlation between age and average credit scores, with scores rising as people age: the average credit score for year olds is 638.

8 Even when all other factors remain the same, a younger person will likely have a lower credit score than an older person. That's because the length of a credit history accounts for 15% of the credit score. You can be at a disadvantage simply because you do not have the depth or length of credit history. Five factors are included and weighted to calculate a person's FICO credit score: 35%: payment history 30%: amounts owed 15%: length of credit history 10%: new credit and recently opened accounts 10%: types of credit in use

9 How Can Teens Build Credit? The most important thing you can do to help build your credit is to learn how to manage money responsibly. Those skills and habits go a long way towards reaching a good credit score. That being said, there are a few options for helping you establish credit: Be added as an authorized user or a joint account holder on your parent s credit card. In order for this to work, the credit card bills must be paid on time; otherwise, it will end up hurting your and your parent s credit. Learn to use credit responsibly, even before you have your own credit card.

10 How Can Teens Build Credit? For example, as an authorized user on your parent s account, you should avoid charging more than you can comfortably pay off in full each month, and balances should be kept well below the credit limit. Some 18-year olds can get credit cards (though most will still need an adult cosigner until they hit 21), but will need a steady source of income to qualify (allowance doesn't count) to prove they can pay off the debt. Avoid applying for multiple cards (even if the deals look great); applying for multiple cards can lower your score dramatically since you will appear desperate for credit. Consider retail and gas cards since they are typically easier to obtain approval for than a Visa or MasterCard. Be sure to ask if the card requires payment in full each month or if it allows minimum payments (like a credit card).

11 How Can Teens Build Credit? If the card must be paid in full each month, it may not be reported as revolving, and therefore will not help your credit (So pay it off in full each month even if it is not required). Make sure you pay all of your bills consistently and on time - including utilities, traffic fines and even library fees. It is important to note that most prepaid credit cards and debit cards will not help you build credit. Read the fine print for details. * Cars and College-----ROCK ON! The two biggest expenses on many teens' radars are cars and college. Without enough cash to pay for these large expenses outright, many teens (and parents) seek "installment loans" - where a set amount of money is borrowed and repaid in fixed monthly payments (installments) for a specific period of time (typically, over several years).

12 * Cars and College-----ROCK ON! An installment loan differs from open-end credit (like credit cards) because the lender allows you to borrow against a preapproved credit line. Each month's payment depends on how much you've borrowed. There are two types of installment loans: secured loans and unsecured loans. A secured loan is backed by collateral (something of value that the lender can take if you default on the loan). Because of the collateral, the interest rates for secured installment loans are comparatively lower than unsecured loans. A car loan is a secured installment loan: if you stop making payments, the lender can take the car from you and sell it to recover some of the money

13 * Cars and College-----ROCK ON! you are still responsible for the difference between what you owe and how much the lender can get for the car. An unsecured loan, on the other hand, is not backed by any collateral. Because this exposes the lender to more risk, the interest rates are comparatively higher than for secured loans. A student loan is a type of unsecured installment loan. Buying a Car In general, you must be at least 18 years old to be approved for a car loan. If you are not yet 18, your parent (or another adult) can be a coqualifier on the loan.

14 * Cars and College-----ROCK ON! Buying a Car You can obtain a car loan from banks, credit unions, finance companies and car dealerships. It often pays to "shop around" to find the best loan terms, including the most favorable annual percentage rate (APR), fees and finance charges. Before you buy a car, it is important that you understand that paying for the car is only the first expense. Associated expenses - including insurance, gas and maintenance (and any tickets and resulting increase in insurance premiums) - have to be taken into consideration when deciding whether a car makes financial sense. If these expenses will be too much of a financial strain, you should seriously consider waiting

15 * Cars and College-----ROCK ON! Buying a Car Because your parents will likely be a co-signor on the loan, it will be in your best interest to make sure the payments are made on time and in full each month. Paying for College That being said, if your agreement with your co-signer was that you would be responsible for the full payment each month, then you should be held to it, and resist the urge to wiat for mom or dad to bail you out (without destroying their credit in the process). There's no doubt about it - college is expensive, and costs are only rising. Aside from tuition, a college's "sticker price" also includes expenses like meals, housing, fees and books. These costs can be viewed as an investment in your future: people with a bachelor's degree or higher earn more and enjoy more job security than people with an associate's degree or high school diploma.

16 * Cars and College-----ROCK ON! Paying for College Not surprisingly then, college graduates have a lifetime earnings average of $2.3 million, compared with $1.3 million for high school graduates. One way to reduce college expenses is to take classes at a community college, where tuition is typically low and many classes are transferable to four-year institutions. "Articulation agreements" are intended to provide a simplified and guaranteed transfer process between community colleges and fouryear institutions. The agreements typically outline the specific courses (and required letter grades) completed at the community college that will transfer to the partner four-year institution. Check in advance to make sure your class(es) will transfer. Regardless of the path you take, you may still need help paying for college.

17 * Cars and College-----ROCK ON! Paying for College There are a number of options for teens and families: Financial Aid. Federal Student Aid (FSA) provides more than $150 billion each year to help more than 14 million students attend college. FSA programs include the Pell grant, student loans and college work study programs. The first step is to complete the Free Application for Federal Student Aid (FAFSA). Apply early for the best chance of receiving nonfederal student aid. Federal Loan Programs. If grants and scholarships are not enough to cover college expenses, you can explore federal loan programs.

18 * Cars and College-----ROCK ON! Paying for College You must first fill out the FAFSA to apply for federal loans - which include Federal Perkins Loans and Direct Stafford Loans. Private loans. A private student loan is issued by a lender, such as a bank or credit union. * Dream House These loans typically have higher interest rates than federal loans, require a credit check, and do not offer deferment options. For these reasons, it is generally better to exhaust federal student loan options before seeking a private loan. When you are or may be ready to move out and find an apartment or house to call home. It should be a mutually agreed-upon move that is the result of your independence and maturity and not in response to family troubles.

19 * Dream House Rather than discuss the reasons behind the move, however, I will focus solely on the process: how do you rent or buy a place to live? Renting While most teens are focused on the rental market (i.e., renting an apartment or house), a few may be ready to purchase a home. In this section, we'll take a look at considerations for both. Renting property, rather than owning, is an option for many people who are not yet ready to settle down, who will be living in an area only temporarily (such as for college), who are not willing or able to meet the financial obligations of a mortgage, or who choose to enjoy the benefits and flexibility of renting. College and graduate students often rent in order to move out of campus housing.