NDSU Extension Service - Ramsey County

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Credit - Now or Later?

Credit – Now or Later?

 

A basic definition of credit is having something now and paying for it later. . Credit is easy to obtain today, but the privilege is easy to abuse.

Credit itself is neither good nor bad. How you use it will determine whether credit is good or bad for you and your budget.

Using credit has advantages. Credit cards are convenient and much safer to carry than large amounts of cash. Buying on credit also allows you to use goods you can’t afford to pay for right on the spot. For some families, buying “on time” can be a form of forced savings. They find it easier to pay off a loan than to save money for a purchase. However, since credit adds to an item’s cost, this may not be the best way to manage money.

And using credit certainly has disadvantages. Credit has a cost - you are renting someone else’s money. You must pay back what you borrow by a certain date, plus pay interest. You may be tempted to buy more than you really need, just because it’s easy to say “charge it.” Families who habitually buy on credit can end up adding as much as 18 – 28 percent or more to the cost of goods and services. Finally, if you’ve tied up too much income in credit payments, you may have trouble paying for basic needs.

How to decide when to use credit and when to use another alternative to obtain the things you want. For example, what are your choices for a $400 television?

• Rent it with the option to buy. You might pay about $13 per week for about 78 weeks, making the total cost a bit more than $1,000.

• Buy it on credit. With an 18 percent interest rate and 18 months to pay it back, your total cost would be $460.

• Save for it. Save $13 per week and pay cash for the television in 31 weeks. This is the lowest cost alternative—$400.

Many financial advisers suggest avoiding a commitment of more than

20 percent of take-home pay to debt repayment (excluding a home mortgage). Some recommend committing no more than 10 to 15 percent to consumer debts, and this amount should be repaid within 24 months.

These signals may indicate you’re headed for credit problems.

• You find yourself paying only the minimum balance due.

• You can’t pay all the bills that come due each month, so you pay some and ignore others.

• You are always out of cash and tend to charge items you used to pay for on the spot.

• You borrow money to pay old debts.

If you can’t pay a debt, talk to the creditor. The worst thing you can do is to ignore it. Explain why you can’t pay. Suggest an alternative payment plan that you can handle. Most creditors will cooperate, since it provides some hope that the money will be paid back. The creditor’s remedies—repossession, hiring a collection agent, or garnishing wages—are unpleasant and costly. If you don’t meet these new commitments, many creditors will take immediate legal action.

How much you pay for credit is influenced by how much you borrow, how long you borrow, from whom you borrow, whether you borrow with or without collateral, and what’s in your credit record. To keep credit costs down, do some comparison shopping. Look for these two terms: finance charge and annual percentage rate. The finance charge is the total dollar amount you must pay for credit. The annual percentage rate (APR) is the yearly charge for credit stated as a percentage. The APR is the rate you pay per dollar per year for the credit you use. The lowest APR is usually the best credit buy.

However, consider the size of the payments and the total cost of the loan as well.

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