Banking, Borrowing, Saving, Investing & Insuring

What is a Bank? A bank is an institution for… Receiving money… Saving money…. Lending money.

How Do Banks Make a Profit? A bank is BUSINESS, whose goal is to MAKE MONEY. A bank’s PROFIT MARGIN is derived from the difference between INTEREST CHARGED… And INTEREST EARNED. For example, Customer X has an account at Wells Fargo that pays him two percent interest… Customer Y takes out a loan from Wells Fargo… At eight percent interest… The six percent difference represents Wells Fargo’s PROFIT MARGIN.

Saving Money Banks offer a variety of ways to save money. The four most common are: Savings accounts… Checking accounts… Money market accounts… Certificates of deposit.

Savings and Checking Accounts Are the most common types of accounts. They are especially useful for people who need to make frequent withdrawals. Both pay a very small amount of interest—sometimes less than 1%. And are not suitable if you want your money to make money.

Money Market Accounts Money market accounts have higher minimum balance requirements than savings accounts… And most limit withdrawals to THREE per month. This limited access is REWARDED by slightly higher interest rates than savings accounts currently pay.

Certificates of Deposit A CD is an investment for cash… That you don’t expect to need for MONTHS or YEARS from now. When you buy a CD… You agree to have your money LOCKED UP for the agreed- upon term. In exchange… Banks will pay HIGHER RATES OF INTEREST… Than they do for savings accounts or MMA.

Simple & Compound Interest Compound interest—interest paid on both the principle AND the accumulated interest… So in your second year, you will receive interest on $105… $5.25. And in year three, interest on $110.25… $5.52. Interest—the price to “buy” money… Principle—the amount borrowed… Simple interest—interest paid only on the principle… If you deposit $100 in a savings account at 5% simple interest, you will make $5/year.

Borrowing Consumers may borrow from a BANK, a private LENDER, or use a CREDIT card. If you borrow money, you must pay back the PRINCIPAL (the amount borrowed)… Plus the INTEREST… You can say that the “price” of “buying” money is called INTEREST.

Mortgages Most banks also offer mortgages— A type of loan used to buy …Real estate. If the home you want to buy costs $200,000… You would typically put down 20% in cash--$40,000…And borrow the rest… Usually over a period of 30 years. A good rule of thumb: your mortgage payment should NOT exceed 28% of your monthly income.

Credit Cards When you use a credit card, you borrow money at the point of purchase… At the end of the month, you receive a bill… If you pay the bill in full, you use the service for free… If you do not pay in full, you will be charged interest.

Credit Scores Before deciding on your application, lenders will consult a CREDIT BUREAU… A SERVICE that specializes in collecting FINANCIAL INFORMATION about consumers). All potential borrowers are issued a “credit score”… If your score is low, you are considered a “high risk” borrower… Which limits the amount of money you may borrow… And usually leads to higher interest rates (making money more expensive).

Advantages of Credit Cards They are convenient— much easier than applying for a bank loan. They allow users to track expenses… They often offer rewards for purchases (airline tickets, cash back, etc.)… They are safer than cash—if they are stolen, your liability is usually limited… Most are accepted around the world.

Disadvantages of Credit Cards… They tempt people to buy things they cannot afford… They mask the “pain” of paying cash… Companies often prey on young people… They charge much higher interest rates than if you borrowed money from a bank.

A.P.R. A.P.R. is the ANNUAL PERCENTAGE RATE, or the total cost of CREDIT expressed as a YEARLY percentage. The average credit card has an APR of 24% If your credit card is carrying a “balance” of $5,000, what is the yearly interest? $1,200.

Investing When you buy something with hope that it will INCREASE in value, you have made an investment. The three most popular types of investments are: Stocks—a portion of ownership of a cooperation. RISKY. Mutual Funds—a collective investment that pools investors’ money in order to purchase a DIVERSIFIED set of investments. LESS RISKY. Bonds—a loan to a cooperation (or the government). LOWEST RISK.

RISK Some investments are RISKIER than others… Why would an investor choose a HIGH RISK investment? Because RISK and RETURN are… DIRECTLY RELATED. If you invest your money by buying a US Savings Bond (one of the safest investments in the world)… You are essentially guaranteed to get your back… However, the return will be quite small. If you invest your money in a South African platinum mine… The risk is HIGH… But the return could potentially be GIGANTIC.

Insurance Insurance is a bet between you and your insurance company… You bet that something bad will happen to you— Illness, a car accident, etc… And they company bets that this WON’T happen.

Insurance Costs To be insured you must pay a monthly premium— A regular sum of money. In return, the company promises to compensate you in the event of an accident. If you remain accident-free, the company makes money… If you have an accident, the company loses profit… And usually makes up for this loss by raising the premium.

Auto Insurance Most states REQUIRE a minimum amount of auto insurance (if you drive). If you drive your friend’s car (with their permission), you are usually covered. Collision—covers damage to your car regardless of fault… Comprehensive—pays for all types of damage, vandalism, theft and natural disasters… Liability—covers accidents that damage another person’s property..

Deductibles Most policies include a deductible— An amount of money YOU must pay before your insurance kicks in. If you have a $1,000 deductible and have an accident… You must pay the first $1,000… And the company pays the rest.

Health Insurance Is NECESSARY to have, even if you’re healthy. It usually covers preventative care, hospitalization and prescriptions. Private plans can cost several hundred dollars a month… Emergency room visits can cost thousands of dollars… Unpaid medical bills is the number one cause of personal bankruptcy in the United States… Get a job that offers health care.

Property Insurance Homeowners insurance protects your home and its contents— In the event of a fire or natural disaster… It is also REQUIRED for you get a mortgage loan. Renter’s insurance protects your belongings if a disaster strikes your apartment. Most policies don’t cover flooding… Make sure you don’t buy a house in a flood zone without flood insurance.