Personal Finance Chapter 6 Teacher Notes PDF

Personal Finance Fourth Canadian Edition Chapter 6 Assessing, Managing, and Securing Your Credit Copyright © 2019 Pearson Canada Inc....

Personal Finance Fourth Canadian Edition Chapter 6 Assessing, Managing, and Securing Your Credit Copyright © 2019 Pearson Canada Inc. 6-1 Chapter Objectives Provide a background on credit Describe the role of credit bureaus Explain the key characteristics of consumer credit products Explain how to manage debt Provide a background on identity theft Describe identity theft tactics Explain how to avoid identity theft Discuss how to respond to identity theft Copyright © 2019 Pearson Canada Inc. 6-2 Background on Credit Credit: funds provided by a creditor to a borrower that the borrower will repay with interest or fees in the future – Repayment of credit is segmented into principal repayments and interest Copyright © 2019 Pearson Canada Inc. 6-3 Types of Credit Instalment Loan: a loan provided for specific purchases, with interest charged on the amount borrowed and repaid on a regular basis Revolving Open-End Credit: credit provided up to a specified maximum amount based on income, debt level, and credit history; interest is charged each month on the outstanding balance, minimum amount due each month, entire amount can be repaid at anytime Copyright © 2019 Pearson Canada Inc. 6-4 Advantages of Using Credit Helps establish a good credit history Helps build a good credit score Helps create the capacity to access credit in the future for large purchases (e.g. home) Eliminates the need for carrying cash Useful in situations where cash may not be an option (e.g. internet purchases) Many credit cards offer additional benefits (e.g. air miles) A record of past transaction is maintained by the credit card company Copyright © 2019 Pearson Canada Inc. 6-5 Disadvantages of Using Credit Difficulty making payments Temptation to make impulse purchases You can damage your credit rating if you do not make the minimum required repayment Large credit payments hinders ability to save May need to withdraw from savings to cover net cash flow deficiencies Copyright © 2019 Pearson Canada Inc. 6-6 Impact of Credit Payments on Savings Copyright © 2019 Pearson Canada Inc. 6-7 Credit History Represents your history with credit instruments such as credit cards, retail credit cards, lines of credit, and personal loans and leases A favourable credit history is established by paying bills in a timely manner Copyright © 2019 Pearson Canada Inc. 6-8 The Credit Application Process Involves filling out the application, negotiating the interest rate, and negotiating the loan contract Application Process – Personal balance sheet – Personal cash flow statement – Proof of income Credit Check Copyright © 2019 Pearson Canada Inc. 6-9 Credit Insurance Represents a commitment by some consumers to cover credit cards repayments under various circumstances (e.g. accident and sickness, unemployment) The payment period is limited to a short term (e.g. three months) Copyright © 2019 Pearson Canada Inc. 6 - 10 Credit Bureaus Credit Reports: reports provided by credit bureaus that document a person’s credit payment history Primary credit bureaus are Equifax Canada and TransUnion Canada Copyright © 2019 Pearson Canada Inc. 6 - 11 Credit Reports Information Your personal information A consumer statement A summary of your accounts Your account history Bank info re accounts closed for derogatory reasons Public info re bankruptcies, judgments, secure loans The names of creditors who have made account inquiries A list of creditor contacts Copyright © 2019 Pearson Canada Inc. 6 - 12 Focus on Ethics: Guarding Your Financial Information You must give written permission to allow firms to access your credit report. Financial institutions must provide customers with privacy policies that detail what information they collect and intend to share Copyright © 2019 Pearson Canada Inc. 6 - 13 Credit Score A rating that indicates a person’s creditworthiness Creditors rely on this score to help determine whether or not to extend a loan Can affect the interest rate quoted on the loan you request Score affected by many factors – Payment history, credit utilization, length of relationship with creditors, types of credit established, recent credit inquiries Copyright © 2019 Pearson Canada Inc. 6 - 14 Credit Score Criteria Copyright © 2019 Pearson Canada Inc. 6 - 15 Credit Bureau Info Differing Scores among Bureaus – Bureaus don’t always have access to the same information Interpreting Credit Scores – Range from 300 to 900, with 600 or higher being considered a good score (very good is 750+) – Each financial institution sets its own criteria to determine whether to extend credit – Acceptable credit score may vary with the type of credit Copyright © 2019 Pearson Canada Inc. 6 - 16 Credit Score Distribution Copyright © 2019 Pearson Canada Inc. 6 - 17 Credit Scores A low credit score is normally due to either missed payments or carrying an excessive amount of debt Poor credit history remains on your report for three to ten years Bankruptcy remains on your report for six to seven years Improve your credit score immediately by catching up on late payments, making at least the minimum payments on time and reducing your debt Copyright © 2019 Pearson Canada Inc. 6 - 18 Reviewing Your Credit Report Review your credit report from each of the credit bureaus at least once a year Beneficial for three reasons: – Ensure that the report is accurate – Identify the types of information that lenders or credit card companies may consider when deciding whether to provide credit – Identify and eliminate any deficiencies Copyright © 2019 Pearson Canada Inc. 6 - 19 Credit Cards 1. Establish a good credit history (the easiest way!) 2. Create credit capacity 3. Eliminate the need for carrying cash 4. Provide a method for payment when cash is not an option 5. Earn additional benefits 6. Receive free financing until the due date on your credit card statement 7. Keep track of your spending by providing you with a consolidated list of the purchases you made Copyright © 2019 Pearson Canada Inc. 6 - 20 Types of Credit Cards MasterCard, Visa, and American Express are the most popular Credit card company receives a percentage (commonly between 2 and 4 percent) of the payments made to merchants with its credit card Many financial institutions issue credit cards Copyright © 2019 Pearson Canada Inc. 6 - 21 Prestige and Specialized Credit Cards Prestige Cards: cards, such as gold cards or platinum cards, issued to individuals who have an exceptional credit standing Provide extra benefits (travel insurance, insurance on rental cars, special warranties on purchases) Usually charge an annual fee Retail (or proprietary) Credit Card: card that is honored only by a specific retail establishment Interest rate charged is normally higher than that charged on standard or prestige cards Copyright © 2019 Pearson Canada Inc. 6 - 22 Credit Card Features Credit Limit- specifies the maximum amount of credit allowed Overdraft Protection- allows purchases beyond stated credit limit, for a fee Annual Fee Incentives to Use the Card (e.g., points) Grace Period- period between time of purchase and when payment is due (usually about 20 days) Copyright © 2019 Pearson Canada Inc. 6 - 23 Credit Card Example One Copyright © 2019 Pearson Canada Inc. 6 - 24 Cash Advances/Convenience Cheques Usually charge high interest plus a transaction fee at the time of the transaction (i.e. no grace period) Extremely costly source of financing and should be used only as a last resort Copyright © 2019 Pearson Canada Inc. 6 - 25 Credit Card Financing (1 of 2) Paying only a portion of the credit card bill monthly Expensive and should be avoided if possible Interest rate between 20 and 30 percent Rate may be variable, fixed, tiered, or may be a teaser rate Finance Charge: the interest and fees you must pay as a result of using credit Copyright © 2019 Pearson Canada Inc. 6 - 26 Credit Card Financing (2 of 2) Previous Balance Method (least favourable) – Interest is charged on the balance at the beginning of the new billing period Average Daily Balance Method (most frequent) – Interest is charged on average daily balance at the end of every day in the billing period – Your finance charges will be lower under this method if you pay part of the outstanding balance during the billing period Adjusted Balance Method (most favourable) – Interest is charged based on the balance at the end of the new billing period Copyright © 2019 Pearson Canada Inc. 6 - 27 Credit Card Example Two (1 of 2) Assume that as of June 10, you have an outstanding credit card balance of $2700 due to purchases made over the previous month. The new billing period begins on June 11. Assume that your outstanding balance for the first 15 days of this new billing period (from June 11 to June 25) is $2700. Then, on June 25, the financial institution receives a payment of $1200 from you, reducing the balance to $1500. This is the balance for the remaining 15 days of the billing period. The annual interest rate is 21 percent, compounded daily. Copyright © 2019 Pearson Canada Inc. 6 - 28 Credit Card Example Two Previous Balance Method. With this method, you will be subject to a finance charge that is calculated by multiplying the $2700 outstanding at the beginning of the new billing period, by the daily interest rate and the number of days in the billing cycle. The daily interest rate is calculated as 21% ÷ 365 = 0.057534247%. Your finance charge is: $2700 × 0.057534247% × 30 days = $46.60 Copyright © 2019 Pearson Canada Inc. 6 - 29 Credit Card Example Two (2 of 2) Average Daily Balance Method. With this method, the daily interest rate is applied to the average daily balance. Since your daily balance was $2700 for the first 15 days and $1500 for the last 15 days, your average daily balance was $2100 for the 30-day billing period. As a result, your finance charge is: $2100 × 0.057534247% × 30 days = $36.25 Adjusted Balance Method. With this method, you will be subject to a finance charge that is calculated by applying the monthly interest rate to the $1500 outstanding at the end of the new billing period. In this case, your finance charge is: $1500 × 0.057534247% × 30 days = $25.89 Copyright © 2019 Pearson Canada Inc. 6 - 30 Credit Card Payments Minimum Monthly Payments – You should always strive to pay off your entire credit card balance in full each month Credit Card Statement – Details why your new balance differs from the balance shown on your statement for the previous month ▪ Results from any new purchases, cash advances or finance charges, and payments Copyright © 2019 Pearson Canada Inc. 6 - 31 Credit Card Example Four (1 of 2) Suppose that you have a credit card balance of $700 due to purchases made last month that you did not pay off. During that billing period, you pay $200 of your outstanding balance. You also use the credit card for $100 of new purchases. Since you relied on the sponsoring financial institution to pay $500 of last month’s bill, you owe a finance charge. Assuming that the institution imposes a finance charge of 1.5 percent (effective interest) per month and uses the adjusted balance method to determine the finance charge (which results in a finance charge of $7.50), your credit card statement would be as follows: Previous Balance $700.00 + New Purchases 100.00 + Cash Advances 0 + Finance Charges 7.50 − Payments 200.00 = New Balance $607.50 Copyright © 2019 Pearson Canada Inc. 6 - 32 Credit Card Example Four (2 of 2) If you had paid the full amount of the previous balance ($700) during the billing period, the statement would have been as follows: Previous Balance $700.00 + New Purchases 100.00 + Cash Advances 0 + Finance Charges 0 − Payments 700.00 = New Balance $100.00 In other words, if you had paid $700 instead of $200, you would not have borrowed from the sponsoring financial institution and would not have incurred a finance charge. The new balance at the end of this billing period would simply be the amount of purchases that occurred over the period. Copyright © 2019 Pearson Canada Inc. 6 - 33 Comparing Credit Cards Criteria; acceptability, annual fee, interest rate (watch for “teaser rates”) Maximum Limit Other Provisions – Are cash advances allowed? what is the fee? – What is the grace period? – Is there a late-payment charge? – How much is the interest rate increased if your payment is made after the grace period? – What is the fee if you access more credit than allowed? Copyright © 2019 Pearson Canada Inc. 6 - 34 Credit Card Example Five (1 of 2) You plan to pursue credit card X because it has no annual fee, while credit card Y has an annual fee of $30. You typically have an outstanding credit balance of $3000 each month. Credit card X charges an annual interest rate of 18 percent on balances carried forward, while credit card Y charges an interest rate of 12 percent on balances carried forward. The difference in the expenses associated with each credit card are shown here. Copyright © 2019 Pearson Canada Inc. 6 - 35 Credit Card Example- Comparing Blank Credit Card X Credit Card Y Average monthly balance $3000 $3000 Annual interest rate 18% 12% Annual interest expenses 18% × $3000 = $540 12% × $3000 = $360 Annual fee $0 $30 Total annual expenses $540 $390 Copyright © 2019 Pearson Canada Inc. 6 - 36 Credit Card Example Five (2 of 2) The annual interest expenses can be determined by knowing the average monthly balance over the year. The higher the average monthly balance, the higher your interest expenses because you will have to pay interest on the balance. Notice that credit card X results in $540 in annual interest expenses, which is $180 more than the annual interest expenses from credit card Y. Thus, while credit card X does not charge an annual fee, your interest expenses from using credit card X could be very high. The high interest expenses more than offset the advantage of no annual fee. If you always pay off your balance in the month that it occurs, you will not have any interest expenses. In this case, the interest rate on the credit card would not be important, and you may prefer credit card X because it does not have an annual fee. That is, you would benefit from no annual fee and would not be adversely affected by the higher interest rate of credit card X. Copyright © 2019 Pearson Canada Inc. 6 - 37 Home Equity Line of Credit (HELOC) a loan in which a home serves as collateral, allowing homeowners to borrow up to a specific credit limit (80% or more), against the equity in their homes pay monthly interest only and pay the principal at a specified maturity date (or at any earlier date) can use the funds for any purpose default can lead to losing your home can be considered a second mortgage (secured but subordinate or secondary to another loan) Shop around for the best rate and terms Copyright © 2019 Pearson Canada Inc. 6 - 38 HELOC Example Suppose you own a home worth $300 000 that you purchased five years ago. You initially made a down payment of $100 000 and took out a $200 000 mortgage. Over the last five years, your mortgage payments have added $25 000 in equity. Thus, you have invested $125 000 in the home, including your $100 000 down payment. At the same time, your mortgage has decreased to $175 000. Assume that the home’s market value has not changed. Also assume that a creditor is willing to provide you with a home equity line of credit of 80 percent based on the current market value of your home minus the outstanding mortgage balance. Copyright © 2019 Pearson Canada Inc. 6 - 39 HELOC Example Maximum Amount of Credit That Can Be Provided or Extended = Market Value of Your Home × 0.80 − Mortgage Balance = $300 000 × 0.80 − $175 000 = $65 000 Copyright © 2019 Pearson Canada Inc. 6 - 40 HELOC Interest Rate Typically variable Usually tied to a specified interest rate index that changes periodically Prime rate: the interest rate a bank charges its best customers Interest-only payments and variable interest rates may create problems for the borrower Always have a plan for repayment Copyright © 2019 Pearson Canada Inc. 6 - 41 Personal Loans Most common financing from a financial institution, usually obtained to finance a large purchase Different from access to credit in that it is normally used to finance one large purchase and has a specific repayment schedule Sources of Loans – Chartered banks, finance companies, credit unions, some automobile manufacturers, friends or family members Copyright © 2019 Pearson Canada Inc. 6 - 42 Loan Contract and Terms a contract that specifies the terms of a loan as agreed to by the borrower and the lender – Amount of the Loan (principal amount) – Interest Rate – Loan Repayment Schedule Amortize: to repay the principal of a loan through a series of equal payments and each includes part of the principal and part of the interest – Maturity or Term: the life or duration of the loan Longer maturity equals lower payments, but more interest is paid over the life of the loan Consider paying off a loan early with extra funds Copyright © 2019 Pearson Canada Inc. 6 - 43 Loan Terms (1 of 2) Security – May include a promise to repay or collateral Collateral: assets of a borrower that back a loan in the event that the borrower defaults Secured loan: a loan that is backed or secured by collateral Unsecured loan: a loan that is not backed by collateral You will receive more favourable terms on a secured loan Copyright © 2019 Pearson Canada Inc. 6 - 44 Effect of Loan Maturity on Total Interest Paid Exhibit 6.5 Effect of Loan Maturity on Total Interest Paid APR (compounded Monthly Blank Loan Amount monthly) Payment Total Interest Total Repaid Four-Year Loan $16 000 4.9% $367.74 $1651.73 $17 651.73 Five-Year Loan $16 000 4.9% $301.21 $2072.44 $18 072.44 Blank Blank Difference $66.53 $420.71 Blank Copyright © 2019 Pearson Canada Inc. 6 - 45 Loan Terms (2 of 2) Co-signing is sometimes required if credit history is weak – Can have significant financial implications for the co- signer – Never feel pressured or obligated to co-sign a loan Payday loan: a short-term loan provided to you if you need funds in advance of receiving your paycheque – Maximum interest rate that can be charged on a consumer loan is 60 percent per annum Copyright © 2019 Pearson Canada Inc. 6 - 46 Focus on Ethics: Predatory Lending Beware of illegal lending practices – Lender charging high loan fees – Lender provides home equity loan with the expectation of default so he can take ownership – Lender ties other products to loan approval – Lender includes balloon payment at end of loan – Loan agreement includes confusing information Shop around for best loan terms Copyright © 2019 Pearson Canada Inc. 6 - 47 The Real Cost of Borrowing on Personal Loans APR must be converted to an effective interest rate, also known as the effective yield, EY Real cost of borrowing must also take into account the payment of additional fees (e.g. service charges and appraisal fees for any collateral) Copyright © 2019 Pearson Canada Inc. 6 - 48 The Real Cost of Borrowing on Personal Loans Solution (1 of 2) Exhibit 6.6 Example of Loan Repayment Schedule: Four- Year Loan, 11 Percent Interest Rate Monthly Interest Payment of Outstanding Month Payment Payment Principal Loan Balance 1 $387.68 $137.50 $250.18 $14 749.82 2 $387.68 $135.20 $252.48 $14 497.34 3 $387.68 $132.89 $254.79 $14 242.55 … … … … … 12 $387.68 $111.08 $276.60 $11 841.72 … … … … … Copyright © 2019 Pearson Canada Inc. 6 - 49 The Real Cost of Borrowing on Personal Loans Solution (2 of 2) Exhibit 6.6 Continued Monthly Interest Payment of Outstanding Month Payment Payment Principal Loan Balance 24 $387.68 $79.07 $308.61 $8317.98 … … … … … 36 $387.68 $43.36 $344.32 $4386.46 … … … … … 48 $387.68 $3.52 $384.16 0 Copyright © 2019 Pearson Canada Inc. 6 - 50 Car Loans- Selecting the Car Personal Preferences Price (stay within your budget) Condition (have a mechanic assess a used car) Insurance (can vary based on higher repair costs and/or are common targets of theft) Resale Value Repair Expenses Financing Rate (compare financing rates and the purchase price offered by dealers) Copyright © 2019 Pearson Canada Inc. 6 - 51 Negotiating the Price of a Car (1 of 2) Some dealers negotiate and some do not Sticker price is manufacturer’s suggested retail price (MSRP) Often high profit built into MSRP Negotiating by phone may be beneficial – Call several dealers – Buy near end of month (sales quotas) Copyright © 2019 Pearson Canada Inc. 6 - 52 Negotiating the Price of a Car (2 of 2) Trade-in Tactics – Attempt to negotiate price on new car before mentioning that you have a trade-in The Value of Information – Information is valuable–shop around – Use consumer magazines or Web sites Purchasing a Car Online – Not as efficient as buying an airline ticket or a book Copyright © 2019 Pearson Canada Inc. 6 - 53 Financing Decisions Example (1 of 2) Dawn Swanson wants to compare her monthly car payments if she borrows $15 000 versus $17 000 to buy a car. She must also decide whether to repay the loan over three, four, or five years. The larger the down payment she makes, the less she will need to borrow. However, she wants to retain some of her savings to maintain liquidity and to use for a future down payment on a house. Dawn goes to a bank website where she is asked to input the approximate amount she will borrow. The website then provides the available interest rate and shows the payments for each loan amount and repayment period, as shown in Exhibit 6.7. The interest rate of 7.6 percent compounded monthly at the top of the exhibit is a fixed rate that Dawn can lock in for the loan period. The possible loan amounts are shown at the top of the columns and each row shows a different repayment period. Copyright © 2019 Pearson Canada Inc. 6 - 54 Financing Decisions Example (2 of 2) Notice that the payments decrease if Dawn extends the loan period. If she borrows $17 000, her monthly payment would be $530 for a three- year loan, $412 for a four-year loan, or $341 for a five-year loan. Alternatively, she can lower her monthly payments by reducing her loan amount from $17 000 to $15 000. Notice that if she takes out a four-year loan for $15 000, her monthly payment is less than if she borrows $17 000. Dawn selects the $17 000 loan with a four-year term and a $412 monthly payment. The four-year term is preferable because the monthly payment for a three-year term is higher than she wants to pay. Since the purchase price of the car is $18 000, she will use the proceeds from selling her old car to cover the $1000 down payment. Copyright © 2019 Pearson Canada Inc. 6 - 55 Financing Decisions Solution Exhibit 6.7 Dawn’s Possible Monthly Loan Payments (7.6 Percent Interest Rate) Blank Loan Amount Blank Loan Maturity $15 000 $17 000 36 months (3 years) $467 $530 48 months (4 years) 363 412 60 months (5 years) 301 341 Copyright © 2019 Pearson Canada Inc. 6 - 56 Purchase versus Lease Decision popular alternative to buying a car Advantages of leasing – do not need a substantial down payment – return the car at the end, no buyer required – lower monthly car payment Disadvantages of leasing – no equity investment (you do not own the car) – responsible for maintenance and damage – usually a kilometre limit for leased vehicle, other fees Copyright © 2019 Pearson Canada Inc. 6 - 57 Purchase versus Lease Decision Example Jiu Wa Ling wonders whether she should lease the car she selected, rather than purchasing it for $18 000. If she purchases the car, she can invest $1000 as a down payment, and the remaining $17 000 will be financed by a car loan. She will pay $412 per month over four years to cover the financing. She expects that the car will be worth $10 000 at the end of four years. By purchasing instead of leasing, she forgoes interest that she could have earned by investing the $1000 down payment over the next four years. If she invests the funds in a bank, she would earn 4 percent annually after considering taxes paid on the interest income. Alternatively, she could lease the same car for $300 per month over the four-year period. The lease would require an $800 security deposit, which would be refunded at the end of the four-year period. She would forgo interest she could have earned if she had invested the $800 instead. At the end of the lease, she would have no equity and no car. Jiu’s comparison of the cost of purchasing versus leasing is shown in Exhibit 6.8. She estimates the total cost of purchasing the car to be $10 936 (after resale is accounted for) while the total cost of leasing is $14 528. Therefore, she decides to purchase the car. Copyright © 2019 Pearson Canada Inc. 6 - 58 Purchase versus Lease Decision Solution (1 of 3) Exhibit 6.8 Jiu’s Comparison of the Cost of Purchasing versus Leasing Cost of Purchasing the Car Blank Blank Cost 1. Down payment $1 000 2. Down payment of $1000 results in forgone interest income: Blank Forgone Interest Blank Income per Year Down = Payment Annual × Interest Rate Blank = $1000 × 0.04 Blank = $40 Blank Forgone Interest over Four Years = $40 × 4 Blank = $160 160 Copyright © 2019 Pearson Canada Inc. 6 - 59 Purchase versus Lease Decision Solution (2 of 3) Exhibit 6.8 Continued 3. Total monthly payments are: Blank Total monthly payments = Total Monthly Payments Monthly Payment × Number of Blank Months = $412 × 48 Blank = $19 776 19 776 Total $20 936 Minus: Expected amount to be received when car is sold in four years − 10 000 Total cost $10 936 Cost of Leasing the Car for Four Years Blank Blank Cost 1. Security deposit of $800 results in forgone interest income (although she will Blank receive her deposit back in four years): Forgone Interest Blank Copyright © 2019 Pearson Canada Inc. 6 - 60 Purchase versus Lease Decision Solution (3 of 3) Exhibit 6.8 Continued Income per Year = Down Payment × Annual Interest Rate Blank = $800 × 0.04 Blank = $32 Blank Forgone Interest over = Four Years = $32 × 4 Blank = $128 $128 2. Total monthly payments are: Blank Total Monthly Payments = Monthly Payment × Number of Months Blank = $300 × 48 Blank = $14 400 14 400 Total cost $14 528 Copyright © 2019 Pearson Canada Inc. 6 - 61 Student Loans (1 of 2) Student loan: a loan provided to finance a portion of a student’s expenses while pursuing post- secondary education obtain through the federal Canada Student Loans Program- see website limit on how much students can borrow each year, based on assessed need Copyright © 2019 Pearson Canada Inc. 6 - 62 Student Loans (2 of 2) Provincial programs can be used to cover what is not covered by the federal Canada Student Loans Program Full-time students- loan repayment begins after education is completed Part-time students- must make interest payments while studying Student loans must still be paid back if you declare bankruptcy within 7 years of ceasing to be a student Copyright © 2019 Pearson Canada Inc. 6 - 63 Debt Management Improve your credit score immediately by: – Catching up on late payments – Making at least the minimum payments on time – Reducing your debt Copyright © 2019 Pearson Canada Inc. 6 - 64 Debt Management: Review Your Personal Financial Statements Analyze your budget, personal balance sheet, and personal cash flow statements Budget- establish a self-imposed credit limit Balance Sheet- identify any financial assets that can be used to pay down your debts immediately Cash Flow- determine where you need to cut back on expenses in order to increase your net cash flow Copyright © 2019 Pearson Canada Inc. 6 - 65 Debt Management Example (1 of 2) Maya Cecilia just received a credit card bill for $700. The sponsoring financial institution charges a 20 percent annual interest rate on the outstanding balance. Maya has sufficient funds in her chequing account to pay the credit card bill, but she is considering financing her payment. If she pays $100 toward the credit card bill and finances the remaining $600 for one year, she will incur interest expenses of: Calculate! She could use the $600 to invest in savings rather than pay off her credit card bill. After one year, how much would she have if the savings account offered 3% annual interest rate? Calculate! Copyright © 2019 Pearson Canada Inc. 6 - 66 Debt Management Example Interest = Loan Amount × Interest Rate = $600 × 0.20 = $120 Interest Earned on Deposit = Initial Deposit × Interest Rate = $600 × 0.03 = $18 (before tax) Copyright © 2019 Pearson Canada Inc. 6 - 67 Debt Management Example (2 of 2) Her interest owed on the credit card loan ($120) exceeds the interest earned on the deposit ($18) in one year by $102. Maya decides that she would be better off using her cash to pay off the credit card bill immediately. By using her money to cover the credit card bill, she gives up the opportunity to earn 3 percent on that money, but she also avoids the 20 percent interest rate that would be charged on the credit card loan. Her wealth is $102 higher as a result of using funds to pay off the credit card bill rather than investing in a bank deposit. Although she could have used the funds to invest in a high-risk investment that might achieve a greater return, paying off the credit card guarantees that she can avoid a 20 percent financing rate. Copyright © 2019 Pearson Canada Inc. 6 - 68 Consumer Proposal last resort before declaring bankruptcy Consumer proposal: an offer made by a debtor to his or her creditors to modify his or her payments – Creditors have up to 45 days to object – Proposal can be made in cases where individual debt is less than $250 000, not including your home mortgage removed from your credit bureau report once the consumer proposal terms have been met Copyright © 2019 Pearson Canada Inc. 6 - 69 Bankruptcy (1 of 2) Individuals can file for personal bankruptcy when they become insolvent (owes at least $1,000 and is unable to pay his or her debts as they come due) Property is given to a Licensed Insolvency Trustee; a person licensed to administer consumer proposals and bankruptcies and manage assets held in trust Copyright © 2019 Pearson Canada Inc. 6 - 70 Bankruptcy (2 of 2) Unsecured creditors will not be able to take legal steps to recover their debts from you Trustee in bankruptcy will sell your assets and distribute the money obtained to your creditors on a pro rata basis Certain assets are exempt from bankruptcy Spouse or common-law partner is not affected by your personal bankruptcy if not responsible for your debt Bankruptcy is a last option for overwhelming debt Copyright © 2019 Pearson Canada Inc. 6 - 71 Avoid Credit Repair Services Claim to solve your credit problems (e.g., mistake on your credit report) You can often fix any credit mistakes yourself, without paying for the services of a credit repair agency Do not have the power to remove late credit payments or loan defaults from your credit report Copyright © 2019 Pearson Canada Inc. 6 - 72 Identity Theft: A Threat to Your Credit Identity theft: when an individual uses personal, identifying information unique to you (e.g., your Social Insurance Number, driver’s license number, credit card accounts, bank accounts or name and date of birth) without your permission for their personal gain Goal may be to acquire money or goods or to establish a new identity for criminal purposes Copyright © 2019 Pearson Canada Inc. 6 - 73 Identity Theft: Scope and Cost The Scope of Identity Theft – Go to www.phonebusters.com/english/statistics.html – Identity theft is a profitable business that affects Canadians in every province The Cost of Identity Theft – Costs difficult to measure; violated, insecurity, lost opportunities, time lost (on avg. 600 hours) – Average financial loss due to identity theft is U$1868 Copyright © 2019 Pearson Canada Inc. 6 - 74 Identity Theft Tactics (1 of 2) Shoulder surfing: occurs in public places where you can be readily seen or heard by someone standing close by Dumpster diving: occurs when an identity thief goes through your trash for discarded items that reveal personal information that can be used for fraudulent purposes Skimming: occurs when identity thieves steal your credit or debit card number by copying the information contained in the magnetic strip on the card Copyright © 2019 Pearson Canada Inc. 6 - 75 Identity Theft Tactics (2 of 2) Abusing Legitimate Access to Records – Co-workers, places you do business, public records Crime Rings Violating Your Mailbox – Both incoming and outgoing mail can provide personal information Copyright © 2019 Pearson Canada Inc. 6 - 76 Pretexting, Phishing, and Pharming Pretexting: occurs when individuals access personal information under false pretenses Phishing: occurs when pretexting happens online Pharming: Similar to phishing, but targeted at larger audiences, it directs users to bogus websites to collect their personal information Copyright © 2019 Pearson Canada Inc. 6 - 77 Protecting Against Identity Theft (1 of 5) Personal information should only be provided over the phone, through email, or over the internet if you have initiated contact Keep the amount of identification and cards that you carry with you to a minimum (not SIN or birth certificate cards) Do not leave your wallet/purse unattended in public Invest in a shredder (for statements and cards with personal info) Empty your mailbox daily and pay attention to your billing cycles Copyright © 2019 Pearson Canada Inc. 6 - 78 Protecting Against Identity Theft (2 of 5) Be aware of your surroundings. Shield your PIN, use well-lit ABMs Actively manage your bank account and credit card statements (and credit report) Avoid signing up for too many loyalty and/or reward programs and review a company’s privacy policy when sign up Copyright © 2019 Pearson Canada Inc. 6 - 79 Protecting Against Identity Theft (3 of 5) When shopping online, verify security – Look for a closed-lock or unbroken-key icon in your web browser before entering sensitive data Don’t post sensitive info to social media Swipe the hard drive of discarded electronics Copyright © 2019 Pearson Canada Inc. 6 - 80 Protecting Against Identity Theft (4 of 5) Be suspicious of info from email or social media that arouses curiosity. Be suspicious of e-mails that request personal information. Install and regularly update anti-virus, anti- phishing and malware software. Install software updates. Copyright © 2019 Pearson Canada Inc. 6 - 81 Protecting Against Identity Theft (5 of 5) Be cautious about downloading files and installing programs from the internet Clear the cache of you browser after visiting secure sites Be familiar with the encryption level of your web browser Install and maintain a firewall Copyright © 2019 Pearson Canada Inc. 6 - 82 Response to Identity Theft (1 of 3) Take immediate action to clean up your credit report Report the crime to the police asap Report the crime to the Canadian Anti-Fraud Centre if a scam or fraud Take steps to undo the damage Document the steps you take to re-establish credit Cancel and obtain new credit cards asap Have the identity theft noted on your credit report Copyright © 2019 Pearson Canada Inc. 6 - 83 Response to Identity Theft (2 of 3) Close your bank accounts and open new ones asap Obtain new ABM cards and telephone cards, with new passwords or PINs Advise the passport office if your passport has been stolen Advise Canada Post if you suspect someone is diverting your mail Advise your telephone, cable, and utility providers about the identity theft Obtain a new driver’s license Copyright © 2019 Pearson Canada Inc. 6 - 84 Response to Identity Theft (3 of 3) Notify the major credit reporting companies Request that a fraud alert be placed in your file (initial alert is up to 90 days) – Will enable the credit bureau to contact you if there is any attempt to establish credit in your name Copyright © 2019 Pearson Canada Inc. 6 - 85 Contacts for Identity Theft Copyright © 2019 Pearson Canada Inc. 6 - 86