1. Responsibilities and Costs of Credit
Chapter 18
Responsibilities and Costs of Credit

2. Lesson 18.2 Analyzing and Computing Credit Costs
Why credit costs vary
Computing the cost of credit

3. Why Credit Costs Vary Several factors determine the cost of credit:
Source of credit – type of lender (bank, credit union, credit card company, etc.)
Amount financed and length of time – the more money borrowed and longer time to pay it back will increase cost of credit
Ability to repay debt – income and creditworthiness reduce cost of credit
Type of credit selected – credit plans

4. Why Credit Costs Vary Several factors determine the cost of credit:
Collateral – secured loans have lower interest rates
Prime rate – the interest rate that banks offer to their best business customers
Economic conditions – inflation increases the cost of credit
The business’s cost of providing credit – costs include delinquent accounts, bad debts, and bankruptcy

5. Computing the Cost of Credit
Simple interest formula – assumes one payment at the end of the loan period
Interest = Principal X Rate X time
Principal – amount borrowed
Rate – cost of credit expressed as a percentage
Time – length of time to repay loan (expressed as a fraction of a year: 12 months, 52 weeks, 360 days)

6. Computing the Cost of Credit
Figure 18-1 – computing interest costs when principal, rate, and time are known
Figure 18-2 – computing principal amount when interest, rate, and time are known
Figure 18-3 – computing rate when interest, principal, and time are known

7. Computing the Cost of Credit
Annual percentage rate (APR) formula
Used to determine cost of credit when installment plans are used (borrower repays loan with more than one payment)
Figure 18-4 and the Math Minute example on p. 439 illustrate the APR calculation
Down payment – part of the purchase price paid in cash up front, reducing the loan amount

8. Computing the Cost of Credit
Credit card billing statements
The cost of credit for open-ended credit varies based on finance charge method:
Adjusted balance method – finance charge is calculated after monthly payment has been applied
Previous balance method – finance charge is calculated before monthly payment has been applied
Average daily balance method – balance is calculated for each day of the billing cycle and finance charge is based on average (most common method used)
Figure 18-5 – illustrates comparison of the three billing systems