Bell Ringer What important financial decisions will you make in the next few years? BRING A CALCULATOR! © Council for Economic Education1

What is Credit? Credit - The opportunity to borrow money or to receive goods or services in return for a promise to pay later. Credit score – A single number assigned to a person used by lenders to predict the risk that borrowers will not repay. Most commonly used is FICO (Fair Isaac Corporation) score © Council for Economic Education2

Your Credit Score Go to Your First Name My address – Write down your ACCESS CODE When you are finished, write down your CREDIT SCORE Low 300 High 850 © Council for Economic Education3

What makes up your credit score? 35% Payment history Rated on whether payments are made on time (Missing payments can remain on credit report for up to 7 years) 30% Managing your debt Percentage of credit balance to available credit (Best less than 10%) 15% Length of credit history How long credit has been managed 10% Diversity of accounts Favorable rating for having a variety of types of credit 10% Number of credit applications Negative rating for frequently seeking new loans or credit cards Often used by organizations to determine whether an individual can lease an apartment, get a job, qualify for insurance, and receive loans or credit cards. © Council for Economic Education4

Cost of a Loan Interest rate - The price paid for using someone else’s money, expressed as a percentage of the amount borrowed Principal – An original amount of money invested or lent © Council for Economic Education5

What is the total cost of the car? What is your monthly payment? Price of car/Loan principal: $15,500 Interest rate: 0% Loan term: 5 years (60 months) © Council for Economic Education6

How to Calculate Simple Interest Simple interest – Interest paid only on the principal of a loan Price of car/Loan principal: $15,500 Interest rate: 2% Loan term: 5 years (60 months) I (simple interest) = P (principal) x R (interest rate) x T (# of years) I = $15,500 x.02 x 5 I = $1550 © Council for Economic Education7

How to Calculate Compound Interest Compound interest – Interest paid on the principal of a loan and the interest owed Price of car/Loan principal: $15,500 Interest rate: 2% Loan term: 5 years (60 months) How much is owed at the end of 1 year? Principal ($15,500) + Interest (0.02 x $15,500) $15,500 + ($15,500 x 0.02) = $15,810 Another way to state this equation: $15,500 x ( ) = $15,810 © Council for Economic Education8

How to Calculate Compound Interest Price of car/Loan principal: $15,500 Interest rate: 2% How much is owed at the end of 1 year? $15,500 x ( ) = $15,810 How much is owed at the end of 2 years? $15,500 x ( ) x ( ) = How much is owed at the end of 3 years? $15,500 x ( ) x ( ) x ( ) = What formula can you derive that will calculate the amount owed for a specific number of years? How can you state this as a general formula? © Council for Economic Education9

How to Calculation Compound Interest A = $15,500 x ( ) n A = total cost n = number of years A = P x (1 + R) n A = total cost P = Principal R = Interest Rate n = Number of Years

What is the total cost of the car? What is your monthly payment? Price of car/Loan principal: $15,500 Interest rate: 2.0% Loan term: 5 years (60 months) © Council for Economic Education11

Bell Ringer What is your credit score? BRING A CALCULATOR!!

Quick Review How does paying interest impact the total cost of a car? If the cost of a car was $15,500 and the interest rate was 5% compounded annually for 5 years, what is the total cost of the car? How would higher interest rates impact the cost of major purchases for consumers? You will your simulated credit score impact the interest rate you are offered?

Car payment calculation A= Monthly payments i= monthly interest rate (annual interest rate/12) P= principal n= total number of payments © Council for Economic Education14 Amortize – to pay off gradually by periodic payments of principal and interest

What is the total cost of the car? What is your monthly payment? Price of car/Loan principal: $15,500 Compound Interest rate (annual): 2.0% Loan term: 5 years (60 months) © Council for Economic Education15

What is the total cost of the car? What is your monthly payment? Price of car/Loan principal: $30,000 Compound Interest rate (annual): 4.7% Loan term: 6 years (72 months) © Council for Economic Education16

Bell Ringer How can your credit score effect you?

What is my Interest Rate? Go to: Use your access code to log-on and find you an interest rate you would be offered with your given credit. Write it down on Handout 2: #3 Read - What does my credit score have to do with the amount I have to pay for my car?

What was your credit score? What was your interest rate? How are your interest rate differences related to your credit score differences? How did these differences impact the total cost of the car for individuals in your group? What behaviors caused some students to have lower credit scores? What behaviors caused some students to have higher credit scores? What could individuals with low simulated credit scores do to improve these credit scores? Now think about the categories used to calculate an actual credit score. What kinds of behaviors would result in a low score, representing a high risk? What kinds of things can each individual do in the future to ensure that your real credit score is high? Group Discussion Questions © Council for Economic Education19

The impact of compounding frequency on total interest paid © Council for Economic Education20

What is my Interest Rate? Take the post-survey at: Use the interest rate you could now get to purchase a car. Write down your interest rate on #4 Go to and find a car you would like to purchase. Write down the make, model, and year. Use the annual interest rate from the second survey and the price of the car to complete #4 on the worksheet. Due on Monday

Bell Ringer What is credit?

Credit Credit allows people to use money that they do not have. In return, people who use credit repay the amount they borrow, plus interest.

3 C’s of Credit Capacity What is the individual’s ability to repay the loan? Character What is the individual’s reliability to repay the loan? Collateral What assets does the individual own that could be sold to repay the loan?

Capacity What is the individual’s ability to repay the loan? Amount and sources of income Steadiness of income Amount of monthly living expenses Number of dependents Level of education and training

Character What is the individual’s reliability to repay the loan? FICO Score (Credit Score) Range from 300 – 850 – the higher the score the more reliable the borrower should be in repaying the loan Years living at same address Criminal record Quality of character references

Collateral What assets does the individual own that could be sold to repay the loan? Amount of financial assets $ or investments with a $ value Market value of real assets Things owned that have $ value if sold

Credit Advantages Helping to gain valuable assets Asset – something that has economic value and will provide the owner with future benefits Help out in an emergency Disadvantages Goods can cost more Fees and interest Borrowing too much Items bought on credit can be repossessed if payments are not made

Approve or Deny Credit? With your partner complete Parts 1 & 2 Complete Part 3 ON YOUR OWN Discuss decisions with your partner and come to an agreement on the rating for each of the 3 Cs Discuss and Complete Part 4 with your partner

Closure On the backside of your sheet answer the following: What have you learned while completing this exercise that could be useful to you when you become a borrower?

Bell Ringer What are the “3 C’s of Credit”? Capacity Character Collateral

Approve or Deny Credit? With your partner complete Parts 1 & 2 Complete Part 3 ON YOUR OWN Discuss decisions with your partner and come to an agreement on the rating for each of the 3 Cs Discuss and Complete Part 4 with your partner