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Credit FAQ
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CREDIT KNOWLEDGE IS CREDIT POWER |
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Buying on credit allows you to take possession of something before paying for it in full, with the promise that you will pay back the remaining amount over an agreed-upon period of time along with additional charges, such as interest. As such, credit can offer you financial flexibility and power. Understanding the obligation and responsibility that comes with using credit will help you build a solid credit history and expand your financial freedom.
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The Benefits of Credit
With a good credit history, you are able to make purchases many people take for granted these days — such as borrowing money for a new car, home, or school tuition. You also use credit to reserve or rent a car, hotel room, or video. Credit enables you to order products and services by phone or on the Web. Whether you're just getting started in life, or you're ready to buy "big ticket" items, or trying to manage your cash flow wisely, credit gives you the flexibility to make purchases whenever and wherever you want. For more on the getting and keeping good credit, you can order a free brochure entitled, "How to Be Credit Smart" from www.afsaef.org.
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The Cost of Credit
As with most services, credit doesn't come free of charge. By granting you credit, creditors allow you the flexibility to make certain purchases, and charge you for this service. How and how much creditors charge you for credit will vary, but they must disclose these rates to you before you agree to borrow. You should always review the terms of your credit before entering into an agreement with a creditor. Typical charges can be measured in finance charges, the total sum of charges above the borrowed amount, and annual percentage rate, the cost of charges relative to the borrowed amount. Understanding these two figures can help you compare rates of different creditors. Make sure you also take into account how long you will be making payments. For example, you may get lower monthly payments at 14% APR over 3 years than if you pay the same APR over 2 years. However, the total finance charges over time will be higher if you make payments over a longer term.
With open-end credit, such as credit cards or overdraft checking accounts, where your balance may fluctuate from month to month, the creditor must also tell you how they will calculate your balance. These methods includes adjusted balance method, previous balance method, two-cycle average balance method, and, one of the most common, the average daily balance method.
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Commonly Used Credit Vocabulary
APR and finance charges are important to understand, but they aren't the only terms that come up when using credit. Here's some other valuable vocabulary to know:
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revolving credit
grace period
annual fee
transaction fee
credit insurance
home equity loan
balloon payment
consolidation loan
interest
open-end lease
principal
residual value
Other commonly used terms have been linked to pop-up glossary definitions throughout this section.
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Credit Protection Laws
There are a number of federal and state laws in place to protect your privacy and to enforce fairness when using or applying for credit. Federal and State Banking Agencies, State Attorneys General, the Federal Reserve Board, and the Federal Trade Commission are responsible for enforcing these laws. American Financial Services Association Education Foundation (AFSAEF)'s brochure "How To Be Credit Smart" recommends you be aware of the following federal credit laws:
Credit Practices Rule
Equal Credit Opportunity Act
Fair Credit Billing Act
Fair Credit Reporting Act
Fair Debt Collection Practices Act
Truth in Lending Act
For more information on your rights under the current credit laws, visit www.federalreserve.gov/pubs/consumerhdbk/ for the Federal Reserve Board's online Consumer Handbook and www.ftc.gov/ftc/consumer.htm for the Federal Trade Commission's Consumer Information portal.
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