FIN533 Chapter 4: Consumer Credit Sources and Management

Base Rate (BR) System

• In January 2015, the Base Lending Rate (BLR) structure was replaced with a new Base Rate (BR) system in Malaysia.
• Under BR, banks determine their interest rate based on a formula set by the central bank, taking into account their benchmark cost of funds and Statutory Reserve Requirement (SRR).
• The BR system also considers other components of loan pricing, such as borrower credit risk, liquidity risk premium, operating costs, and profit margin.

How Does it Affect You?

• The change to the BR system has a minimum impact on borrowers.
• Banks like Maybank are required to reveal their base rate and disclose their margin, which determines the Effective Lending Rate (ELR).
• For example, Maybank's Base Rate (BR) is 1.75%, and the ELR is presented as "base rate +1.50%", resulting in an effective rate of 3.25%.

Loans and Interest Rates

• Loans approved and extended prior to January 2, 2015, will still follow the old BLR until the end of the loan tenure.
• New loan applicants and refinancing applicants will be affected by the new BR framework, with interest rates taking effect from the date.

Tackling the Trade-Offs

• Longer loans result in lower payments, but more total interest.
• Lender risk versus interest rate: ways to reduce the lender's risk and the interest rate include accepting a variable interest rate, providing collateral, making a large down payment, and having a shorter loan term.

Calculating the Cost of Credit

• Simple interest is computed on principal only and without compounding.
• The finance charge is the total dollar amount you pay to use credit, including interest costs, service charges, credit-related insurance premiums, or appraisal fees.

Sources of Consumer Credit

• Inexpensive loans: parents or family members, loans based on assets (using Certificate of Deposit (CD) as collateral).
• Medium-priced loans: commercial banks, savings and loan associations, and credit unions.
• Expensive loans: finance and check cashing companies, retailers such as car or appliance dealers, and bank credit cards and cash advances.

The Cost of Credit

• The annual percentage rate (APR) is the percentage cost of credit on a yearly basis.
• APR is the true rate of interest, allowing you to compare rates with other sources of credit.

Methods of Calculating Interest

• Simple interest on the declining balance: interest is paid only on the amount of original principal not yet repaid.
• Add-on interest: interest is calculated on the full amount of the original principal, added to the principal, and the total of both is divided by the number of payments to be made.
• Adjusted balance method: finance charges are calculated after payments made in the billing period have been subtracted.
• Average daily balance method: creditors add your balances for each day in the billing period, divide this total by the number of days in the billing period, and then multiply this average by the monthly interest rate.

Managing Your Debts

• Notify creditors if you can't make a payment.
• The Fair Debt Collection Practices Act regulates debt collection agencies.
• You can dispute the debt or pay it, and you have the right to verification of the debt within 30 days.

Reasons for Debt

• Emotional problems such as the need for instant gratification or pleasure.
• The expectation of instant comfort among young couples who overuse the installment plan.
• To show that they have as much money as other people.
• Overindulgence or excessive gratification of a children's wishes.