1. Credit and Debt Management: Tools and Techniques for Financial Planning

1. Credit and Debt Management Chapter 17 Tools & Techniques of Financial Planning Copyright 2009, The National Underwriter Company 1 What This Chapter Will Cover What is credit? Characteristics creditors look for when granting credit Debt ratios and their use Debt problems and over-borrowing Credit reports, the FICO credit score How to improve ones credit How to deal with identity theft Major consumer protection laws

2. Credit and Debt Management Chapter 17 Tools & Techniques of Financial Planning Copyright 2009, The National Underwriter Company 2 Credit is borrowing money so that one can pay in the future for goods and services that are enjoyed now. Credit costs in the form of interest rates. Interest is the rent on using other peoples money. Maintaining creditworthiness is important to financial freedom in todays world. What is Credit?

3. Credit and Debt Management Chapter 17 Tools & Techniques of Financial Planning Copyright 2009, The National Underwriter Company 3 What Creditors Look For The Three Cs Capacity Does the debtor have the resources to pay the debt? Are those sources secure? Character What is this persons history when it comes to paying off debt? Collateral Is there fungible property that could be used to secure this debt?

4. Credit and Debt Management Chapter 17 Tools & Techniques of Financial Planning Copyright 2009, The National Underwriter Company 4 Debt Ratios Key indicator of their true financial picture Less than 10% (not counting mortgage) is good. Greater than 20% is danger signal. Types of Debt Ratios Front-End Ratio = housing expense (PITI) /monthly income. Back-End Ratio = (PITI + Other monthly debt)/monthly gross income. Collateral and Secured Loans: Loans secured by pledged assets such as securities or tangible assets.

5. Credit and Debt Management Chapter 17 Tools & Techniques of Financial Planning Copyright 2009, The National Underwriter Company 5 Steps to Take Dealing with Debt Problems These are for dealing with progressively more severe situations: Developing a Budget figure out where you are. Contacting Your Creditors see if you can work out a modified payment plan. Dealing with Debt Collectors Federal laws restrict what collectors can do. Credit Counseling: Credit counselor takes a certain percent of your income and allots it to creditors (with whom they have worked out deals). Some are not-for-profit: Others charge hefty fees . ---More on next slide

6. Credit and Debt Management Chapter 17 Tools & Techniques of Financial Planning Copyright 2009, The National Underwriter Company 6 Steps to Take Dealing with Debt Problems (contd) Debt Consolidation Often uses a home equity line of credit or a refinance. Interest rates are often less and are tax-deductible (to a point). Remember that these are now secured by your house, and non-payment could mean that you lose your home.

7. Credit and Debt Management Chapter 17 Tools & Techniques of Financial Planning Copyright 2009, The National Underwriter Company 7 Bankruptcy The last resort in dealing with excess debt. It affects your credit for a minimum of seven (and maybe 10) years. Also makes it difficult to get life insurance. Can prevent you from buying a home. Can cause you to not be hired for a job. Two types of personal bankruptcy Chapter 13 and Chapter 7. New restrictions on bankruptcy took effect in October 2005.

8. Credit and Debt Management Chapter 17 Tools & Techniques of Financial Planning Copyright 2009, The National Underwriter Company 8 Chapter 13 Allows the filers, if they have a regular income and limited debt, to keep property, such as a mortgaged house or car that they otherwise might lose. The court approves a repayment plan that allows the filer to pay off a default during a period of three to five years, rather than surrender any property.

9. Credit and Debt Management Chapter 17 Tools & Techniques of Financial Planning Copyright 2009, The National Underwriter Company 9 Chapter 7 Straight Bankruptcy Liquidates all assets that are not exempt. Exempt property may include cars, work-related tools, and basic household furnishings. Some property may be sold by a court-appointed official a trustee or turned over to creditors. A person can receive a discharge of debts under Chapter 7 only once every eight years. Under the BACPA 2005, a debtor must satisfy a means test to file under Chapter 7.

10. Credit and Debt Management Chapter 17 Tools & Techniques of Financial Planning Copyright 2009, The National Underwriter Company 10 Credit Scoring Credit Reports are summaries of a persons credit history that are prepared by businesses known as Credit Reporting Agencies (CRA). There are three major CRAs in the U. S.: Experian Equifax TransUnion You may get one free report each year and under other certain circumstances.

11. Credit and Debt Management Chapter 17 Tools & Techniques of Financial Planning Copyright 2009, The National Underwriter Company 11 What a Credit Report Contains Identifying information Name, Address, DOB, etc. Credit history There may be codes to tell how well the borrower has repaid. Public records This is the part of the report borrowers want to be absolutely blank. It is where judgments, liens, etc. would appear. Inquiries section This says who has asked to see the report.

12. Credit and Debt Management Chapter 17 Tools & Techniques of Financial Planning Copyright 2009, The National Underwriter Company 12 The FICO Credit Score FICO stands for Fair, Isaacs and Co., who originated the scoring. Boils the whole credit report down to one number that has proven reliable. Different lenders will weight different factors differently. Can be as high as 800. Average is in the mid to high 600s. High 600s and 700s are excellent. Breakdown of Credit Scores Fair Isaac Corporation

13. Credit and Debt Management Chapter 17 Tools & Techniques of Financial Planning Copyright 2009, The National Underwriter Company 13 Determining the FICO Score Past delinquency Late payments lower the score. The way credit has been used Someone who is maxed out or close to the limit on a credit card is considered a greater risk than someone who does not look at the high credit line as a license to print money. The age of the credit file Fair, Isaacs model assumes people who have had credit for a long time are less risky. The number of times a person asks for credit. A customers mix of credit Someone with only a secured credit card is generally considered riskier than someone who has a combination of installment and revolving loans. A complete explanation can be read at http://www.myfico.com/CreditEducation/WhatsInYourScore.aspx?fire=5

14. Credit and Debt Management Chapter 17 Tools & Techniques of Financial Planning Copyright 2009, The National Underwriter Company 14 Mortgages & FICO Freddie Mac: score above 660 is acceptable. Under 620 is high risk. Very good scores are in the mid-700s, for borrowers above 750, there can be discounted rates. Table at right is for $150,000 30-year fixed loan on August 30, 2005. Source: FairIsaac , which updates this table daily at http://www.myfico.com/FICOCredit ScoreEstimator/AboutScores.aspx Your FICO Score Your Interest rate Your Monthly payment 760-850 5.44% $846 700-750 5.66% $867 680-699 5.84% $884 660-679 6.05% $904 640-659 6.48% 946 620-639 7.03% $1,001 Actual rates Updated Daily

15. Credit and Debt Management Chapter 17 Tools & Techniques of Financial Planning Copyright 2009, The National Underwriter Company 15 Credit Cards & Auto Lenders Credit Cards Weight on-time payment of revolving accounts very highly Different rules for students with starter card some say too lenient Auto lenders More like mortgages Uses debt ratios Weights car payments more highly than revolving credit

16. Credit and Debt Management Chapter 17 Tools & Techniques of Financial Planning Copyright 2009, The National Underwriter Company 16 Improving Ones Credit Report First, pay bills on time, reduce use of credit lines available, and reduce your debt ratios. Some credit reports contain errors. You can use the form letter in your text as a model to request changes. The CRA is legally bound to investigate and notify the originator of the bad report. If the originator does not respond in 30 days, the CRA must eliminate the bad report. Accurate negative information can only be erased by the passage of time.

17. Credit and Debt Management Chapter 17 Tools & Techniques of Financial Planning Copyright 2009, The National Underwriter Company 17 Time limits for certain accurate negative items Bankruptcy 10 years. Credit information reported in response to an application for a job with a salary of more than $75,000 has no time limit. Information about criminal convictions has no time limit. Credit information reported because of an application for more than $150,000 worth of credit or life insurance has no time limit. Default information concerning U.S. Government insured or guaranteed student loans up to seven years. Information about a lawsuit or an unpaid judgment against the consumer seven years or until the statute of limitations runs out, whichever is longer.

18. Credit and Debt Management Chapter 17 Tools & Techniques of Financial Planning Copyright 2009, The National Underwriter Company 18 Identity Theft Identity theft occurs when an imposter obtains key pieces of information such as Social Security and drivers license numbers to obtain credit, merchandise, and services in the name of the victim. The victim is left with a ruined credit history and the time-consuming and complicated task of regaining financial health. Tools & Techniques of Financial Planning.

19. Credit and Debt Management Chapter 17 Tools & Techniques of Financial Planning Copyright 2009, The National Underwriter Company 19 What To Do About Identity Theft Contact one of the three Credit Reporting Agencies. View credit reports. Write a victim statement. Contact creditors of tampered accounts. Contact law enforcement agency. Change all passwords and PINs. Change your drivers license number. Contact your telephone and utility companies. See www.consumer.gov/idtheft/index.html for more information.

20. Credit and Debt Management Chapter 17 Tools & Techniques of Financial Planning Copyright 2009, The National Underwriter Company 20 Avoiding Credit Scams Ads Promising Debt Relief May Be Offering Bankruptcy. Advance-Fee Loan Scams Credit Repair Scams The Credit Repair Organizations Act If it sounds too good to be true, it probably is.

21. Credit and Debt Management Chapter 17 Tools & Techniques of Financial Planning Copyright 2009, The National Underwriter Company 21 Other Consumer Protection Laws Many consumer publications are available at www.federalreserve.gov/consumers.htm. Consumer Credit Protection Act of 1968 - Truth in Lending Consumer Leasing Real Estate Settlement Procedures Act Equal Credit Opportunity Act Fair Credit Billing Act