The credit crunch
By SHARON HODGES and BARRY FRIEDMAN
© St. Petersburg Times, published September 28, 2000
Finance Chapter Four
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She found a way to get the extra money she needed when she passed a booth on campus where she could get a free T-shirt just for signing up for a credit card. It was months later before she realized just how many thousands of dollars that free T-shirt could cost her.
The credit card became a handy way for Lourdes to pay for things she needed. Before long, she found it was also a handy way to pay for things she didn't really need -- and couldn't really afford, such as a VCR.
"It was that "buy-now, pay-later' philosophy. I'd go into Burdines and come out after spending $120," Lourdes said.
Not long after graduating from college -- fortunately, she found a good job -- Lourdes owed $10,000 to credit card companies. Even though she wrote a check for the minimum payment each month, the amount of money she owed never seemed to go down.
Lourdes had learned a tough lesson: While credit let her spend money she didn't have, there were some big costs for using the money.
When you use credit, whether it is a credit card or a car loan, your part of the bargain is that you agree to pay back what you owe for the purchase plus a fee for using the credit. The fee for using the credit is called interest, and it is the consumer's cost for borrowing money.
The key to using credit is having the discipline to stay within your budget. Overspending is one of the biggest problems with using credit because all of your money can disappear into consumable goods such as food and entertainment, or products that lose their value over time such as clothing, cars and computers.
Credit comes in many forms other than credit cards. There are loans from banks or credit unions for houses, cars, education or other personal uses. Sales financing companies also offer loans, often to pay for major appliances, cars or boats.
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Many high school students are familiar with a purchase plan that is similar to credit: offers to get 12 CDs for free when you promise to purchase 10 or more over a certain period of time. It's not technically credit because you are not actually borrowing money and you are not charged interest on your purchase.
Still, offers like this in magazines and direct mail introduce many young people to the challenges of a buy-now-pay-later arrangement.
Students interested in one of these offers can find out if it's a good deal by comparing the cost with what they would spend at a local retail store.
To get the total cost of the CD offer, add the shipping costs and any fee for the initial CDs, the cost of the additional CDs you're required to purchase, and the cost of shipping and handling of the additional CDs.
Then compare the total cost of buying the CDs at a local store by adding the cost of the initial CDs at the store and the regular retail price for additional CDs required by the special deal.
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Credit cards, including Discover, MasterCard, Optima and Visa, let you charge your purchases up to a set amount. This set amount is called the credit limit, and it means you cannot charge purchases or incur finance charges above that amount. The credit limit can range from $100 to more than $10,000 per card.
Each month, you get a statement for your credit card account that tells you how much you have charged, how much you have paid, what finance charges you owe and what your new balance is. Credit cards have a minimum amount due each month, but as long as you pay at least the minimum, you have the choice to pay as much as you want. If you pay the entire balance, you will not be billed for finance charges.
One of the ways people like Lourdes can get into trouble with credit is to apply for a new card from a different company when they've maxed out the limit on the card they're using. Before finally bringing her credit under control, Lourdes had four credit cards.
Lourdes did not have to pay a penalty because she always paid the minimum. But nevertheless she paid a high price -- in the form of interest.
The minimum monthly payment on many credit card accounts, including Lourdes', is $15 or 2 percent of the total the borrower owes. In Lourdes' case, the minimum payments she was making didn't even cover the interest, so her credit card bill kept getting higher and higher.
Lourdes finally found a way out of her credit nightmare. She went to the consumer credit counseling service in her town, and they consolidated her bills so that she could make one monthly payment. Little by little, she paid it off. But she had to discipline herself not to use her cards while she was paying them off.
It is a lesson she learned well. Even though her credit cards are paid off, she now has only one card, which she uses for emergencies. And she pays the entire bill each month so that the credit monster won't return.
"It hurts to pay it off," she says, but she adds there's nothing like the financial freedom of being debt-free. "Oh, man. I can't explain the feeling."
Lourdes didn't realize until it was too late that her credit card habits were getting her into deep financial trouble. When you get your first credit card, what steps can you take to make sure you don't end up with credit card bills that you can't pay? Is it wise to pay just the minimum that is listed on your credit card bill?
Credit card cautions
Credit card statements tell you what day your payment is due. If you don't pay by that date, you will have to pay an additional finance charge.
Credit cards cost money. Often there is an annual fee to have a credit card, and the interest rates on credit cards varies from one card to another. Smart shoppers shop around, looking for a credit card without an annual card fee and with a low annual interest rate.
If you get in the habit of charging more purchases than you pay off each month, you'll get into big trouble before you know it. No one should use credit cards without careful planning!
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Sharon Hodges and Barry Friedman are authors of Financial Freedom, a booklet on personal finance available free through the Florida Council on Economic Education.
About the Florida Council on Economic Education
Money Stuff was developed by the Florida Council on Economic Education and project director Fonda Anderson. The council is a statewide non-profit organization founded in 1975 to educate K-12 teachers and students about the free enterprise system and to instill in them an appreciation for a market economy. For more information on the Council's programs for teachers and students, please call (813) 289-8489.
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