INSTALLMENT BUYING Chapter Fourteen McGraw-Hill/Irwin Copyright © 2014 by The McGraw-Hill Companies, Inc. All rights reserved.

Learning unit objectives 1. Calculate the amount financed, finance charge, and deferred payment. 2. Calculate the estimated APR by table lookup . 3. Calculate the monthly payment by formula and by table lookup. LU 14-1: Cost of Installment Buying LU 14-2: Revolving Charge Credit Cards 1. Calculate the finance charges on revolving charge credit card accounts. 14-

installment loan This chapter discusses the cost of buying products via installments (closed-end credit) and revolving credit card (open-end credit). An installment loan is a loan that is repaid over time with a set number of scheduled payments of principal and interest. The payment process is called amortization. The term of loan may be as little as a few months and as long as 30 years. A mortgage, for example, is a type of installment loan. Installment buying is a form of closed-end credit and may add a substantial amount to the cost of big-ticket purchases. Installment loans are generally considered to be safe and affordable alternatives to open ended credit such as credit cards. Closed-end credit is a loan or extension of credit in which the proceeds are dispersed in full when the loan closes and must be repaid, including any interest and finance charges, by a specified date Open ended credit is a pre-approved loan between a financial institution and borrower that may be used repeatedly up to a certain limit and can subsequently be paid back prior to payments coming due. The pre-approved amount will be set out in the agreement between the lender and the borrower. Open-end credit is also referred to as a "line of credit" or "revolving line of credit".

Installment loans must clearly set out the following information in a print that all can read without effort: 1- A clear description of the goods 2-The cash price for the goods 3-The total sum that must be paid ( deferred payment price ), including the amount financed and finance charge  3-The Down Payment 4-The monthly installments (most states require that the applicable interest rate is disclosed)

Cost of Installment Buying Deferred payment price (DPP) – the total of all monthly payments plus the down payment. DPP = Total of all + Down monthly payments payment Amount financed (AF) – the amount actually borrowed. AF = Cash price -- Down payment Finance charge (FC) – the interest charge. FC = Total of all -- Amount monthly payments financed Installment loan – A loan paid off in a series of equal periodic payments. Payments include interest and principal.

Cost of Installment Buying Example # 1 : Mary Wilson would like to buy a boat that cost $9,345. If she puts down $300 she can finance the balance for 60 months at 10.5% (monthly payment = $194.38). Calculate the amount financed, finance charge, and deferred payment price. Amount financed = Cash price -- Down payment $9,045 = $9,345 -- $300 Finance charge = Total of all -- Amount monthly payments financed $2,617.80 = $11,662.80 -- $9,045 ($194.38 x 60) Deferred payment Price = Total of all + Down monthly payments payments $11,962.80 = $11,662.80 + $300

annual percentage rate (APR) In 1969, the Federal Reserve Board established the Truth in Lending Act (Regulation Z). The law doesn't regulate interest charges; its purpose is to make the consumer aware of the true cost of credit. The Truth in Lending Act requires that creditors provide certain basic information about the actual cost of buying on credit. Before buyers sign a credit agreement, creditors must inform them in writing of the amount of the finance charge and the annual percentage rate (APR). The APR represents the true or effective annual interest creditors charge. This is helpful to buyers who repay loans over different periods of time

Calculating APR by Table The APR can be calculated by formula or by tables. The following steps are for using a table to calculate APR: Step 1. Divide the finance charge by amount financed and multiply by $100 to get the table lookup factor. Step 2. Go to APR Table 14.1. At the left side of the table are listed the number of payments that will be made. Step 3. When you find the number of payments you are looking for, move to the right and look for the two numbers closest to the table lookup number. This will indicate the APR.

Annual Percentage Rate (APR) Calculating APR Rate by Table 14.1 let's determine the APR for the Example #1given earlier: As calculated, total finance charge is $2,617.80 Finance charge x $100 = Table 14.1 Amount financed lookup number $2,617.80 x 100 = $28.94 $9,045 Between 10.25% -- 10.50%

Annual Percentage Rate Table per $100 (Table 14.1)

Calculating the Monthly Payment Monthly payment can be calculated by formula and table: Formula: Monthly Payment = 𝐹𝑖𝑛𝑎𝑛𝑐𝑒 𝐶ℎ𝑎𝑟𝑔𝑒+𝐴𝑎𝑚𝑜𝑢𝑛𝑡 𝐹𝑖𝑛𝑎𝑛𝑐𝑒𝑑 𝑁𝑢𝑚𝑏𝑒𝑟 𝑜𝑓 𝑝𝑎𝑦𝑚𝑒𝑛𝑡𝑠 𝑜𝑓 𝐿𝑂𝑎𝑛 In example # 1 : Monthly Payment = 9045+2617.80 60 = 194.38 Table: Step 1. Divide the loan amount by $1,000. 9045 1000 = 9.045 Step 2. Look up the rate (10.5%) and the number of months (60). At the intersection is the table factor showing the monthly payment per $1,000 ($21.49). Step 3. Multiply the quotient in Step 1 by the factor in Step 2. 9.045 x $21.49 = $194.38

Loan Amortization Table (Table 14 Loan Amortization Table (Table 14.2) (Monthly payment per $1,000 to pay principal and interest on installment loan) (Partial)

PRACTICE QUIZ 1-From the following partial advertisement calculate the following: a. Amount financed. b. Finance charge. c. Deferred payment price. d. APR by Table 14.1. e. Monthly payment by formula. 2-Jay Miller bought a New Brunswick boat for $7,500. Jay put down $1,000 and financed the balance at 10% for 60 months. What is his monthly payment? Use Table 14.2. For step by step solution watch the video for LU 14-1 ( Go to: McGraw-Hill’s Connect; Assignment # 6; Question 1; Click the eBook & resources options drop down menu;scroll down to LU14-1 and click

Revolving credit Revolving credit is a type of credit  that does not have a fixed number of payments. Credit cards are an example of revolving credit used by consumers. The borrower may use or withdraw funds up to a pre-approved credit limit. The amount of available credit decreases and increases as funds are borrowed and then repaid. The credit may be used repeatedly. The borrower makes payments based only on the amount they've actually used or withdrawn, plus interest. The borrower may repay over time (subject to any minimum payment requirement), or in full at any time. Source:wikipedia.org

Revolving Charge Credit Cards Fair Credit and Charge Card Disclosure Act of 1988. Interest charges are based on the interest rate times the previous month’s balance (outstanding balance). Payments are first applied towards interest and then the outstanding balance (US Rule). Revolving charge account -- allows the buyer open-end credit up to the maximum credit limit.

Paying Just the Minimum, and Getting Nowhere Fast The cost – in years and dollars -- of paying the minimum 2% of balances on credit cards charging 17% annual interest: Balance Total Cost Total Time $1,000 $2,590.35 17 years, 3 months $2,500 $7,733.49 30 years, 3 months $5,000 $16,305.34 40 years, 2 months Source: www.bankrate.com

Schedule of Payments (Table 14.3) Monthly Outstanding Amount of Payment Balance 1 1/2% Interest Monthly Reduction in Outstanding Number Due Payment Payment Balance Due Balance Due 1 $8,000.00 $120.00 $500 $380.00 $7,620.00 (.015 x $8,000) ($500 - $120) ($8,000 - 380) 2 $7,620.00 $114.30 $500 $385.70 $7,234.30 (.015 x $7,620) ($500 - $114.30) ($7,620 - 385.70) 3 $7,234.30 $108.51 $500 $391.49 $6,842.81 (.015 x $7,234.30) ($500 - $108.51) ($7,234.30-391.49)

Calculating Average Daily Balance Step 1. Calculate the daily balance or amount owed at the end of each day during the billing cycle: Daily Previous Cash balance balance advances = + + Purchases -- Payments Step 2. When the daily balance is the same for more than one day, multiply it by the number of days the daily balance remained the same or the number of days of the current balance. Step 3. Add the cumulative balances. Step 4. Divide the sum of the cumulative daily balances by the number of days in the billing cycle. Step 5. Finance charge = Rate per month x Average daily balance

Calculating Average Daily Balance Calculate the balance outstanding at the end of month 2 (use U.S. Rule) given the following: purchased $600 desk; pay back $40 per month; and charge of 2 ½% interest on unpaid balance. 31-day billing cycle 8/20 Billing date Previous balance $210 8/27 Payment $50cr. 8/31 Charge Staples 30 9/5 Payment 10cr. 9/10 Cash advance 60 Rate 2% per month on average daily balance. Balance Monthly Reduction Balance Month due Interest payment in balance outstanding 1 $600 $15.00 $40 $25.00 $575.00 (.025 X $600) ($40 - $15) 2 $575 $14.38 $40 $25.62 $549.38 (.025 X $575)

Calculating Average Daily Balance 1. Calculate the average daily balance and finance charge from the information that follows. 31-day billing cycle 8/20 Billing date Previous balance $210 8/27 Payment $50cr. 8/31 Charge Staples 30 9/5 Payment 10cr. 9/10 Cash advance 60 Rate 2% per month on average daily balance.

Calculating Average Daily Balance (7+4+5+5) Days Current Daily Balance Extension 7 $210 $1,470 4 160 ($210 -- $50) 640 5 190 ($160 + $30) 950 5 180 ($190 -- $10) 900 10 240 ($180 + $60) 2,400 $6,360 Average daily balance = $6,360 = $205.16 31 Finance charge = $4.10 (205.16 x .02) 31 - 21

PRACTICE QUIZ 1-Calculate the balance outstanding at the end of month 2 (use U.S. Rule) given the following: purchased $600 desk; pay back $40 per month; and charge of 2.5% interest on unpaid balance. 2- Calculate the average daily balance and finance charge from the information that follows. For step by step solution watch the video for LU 14-2( Go to: McGraw-Hill’s Connect; Assignment # 6;Question 2; Click the eBook & resources options drop down menu;scroll down to LU14-2 and click

Example

Problem 14-14 First America Bank’s monthly payment charge on a 48-month, $20,000 loan is $488.26. The U.S. Bank’s monthly payment fee is $497.70 for the same loan amount. What would be the APR for an auto loan for each of these banks? (Use the Business Math Handbook.) LU 14-1(1, 2) Solution: First America Bank $488.26 X 48 = $23,436.48 - 20,000.00 $ 3,436.48 finance charge U.S. Bank $497.70 X 48 = $23,889.60 20,000.00 $ 3,889.60 finance charge $3,436.48 $20,000 X $100 = $17.1824 $3,889.60 $20,000 X $100 = $19.45 Between 8.00% and 8.25% Between 8.75% and 9%

Problem 14-15 From the following facts, Molly Roe has requested you to calculate the average daily balance. The customer believes the average daily balance should be $877.67. Respond to the customer’s concern. LU 14-2(1) 28-day billing cycle 3/18 Billing date Previous balance $800 3/24 Payment $ 60cr. 3/29 Charge: Sears 250 4/5 Payment 20cr. 4/9 Charge: Macy’s 200 Solution: No. of Days Current of Current Balance Balance Extension 6 $ 800 $ 4,800 5 740 3,700 7 990 6,930 4 970 3,880 6 (28 -- 22) 1,170 7,020 $26,330 / 28 = $940.36 Customer divided by 30 days instead of 28 days should be $940.36.

Problem 14-16 Jill bought a $500 rocking chair. The terms of her revolving charge are on the unpaid balance from the previous month. If she pays $100 per month, complete a schedule for the first 3 months like Table 14.3. Be sure to use the U.S. Rule. LU 14-2(1) Solution: Monthly 1½ % Amount of Payment Outstanding Interest Monthly Reduction in Outstanding Number Balance Due Payment Payment Balance Due Balance Due 1 $500.00 $7.50 $100.00 $92.50 $407.50 ($500 x .015) ($100.00 - $7.50) ($500 - $92.50) 2 $407.50 $6.11 $100.00 $93.89 $313.61 ($407.50 x .015) ($100.00 - $6.11) ($407.50 - $93.89) 3 $313.61 $4.70 $100.00 $95.30 $218.31 ($313.61 x .015) ($100.00 - $4.70) ($313.61 - $95.30)