Creating Consistency in Educational Finance: A Training Curriculum
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Module 3: Campus Administrators
Fundamentals of credit and debt management
A student's understanding of the fundamentals of credit and debt management is critical to his or her successful repayment of education debts. Many college students do not have a thorough understanding of the damaging effects that large amounts of debt can have on their lives. Campus administrators have the responsibility to educate students about the serious consequences that living beyond their financial means can have on their lifestyle once they graduate. For instance, administrators are encouraged to teach students to be realistic about expected income levels for students graduating from a particular program of study. Also, students should become aware of the expenses associated with the cost of living upon graduation and the debt obligations that must be honored.
Understanding the importance of good credit history
It is important that students understand the reasons why they should build a strong credit history. Students should understand what a credit report is and how it can be used by others to make decisions about them. Students should realize the significance of interest rates and how they impact credit card balances. Campus administrators may counsel students using the following explanation about the significant aspects of proper credit and debt management.
Understanding the impacts of credit history
- For college students without prior credit history, a student loan and/or credit card sometimes compose the only credit history that students will have on their credit report when they graduate. If managed properly, their payment history on such debts will help them make larger purchases that require proof of successful repayment.
- A positive credit history can be a great asset. Many employers can access it to find out about an individual's character.
- Having a good credit history will make it a lot easier (and less expensive) to buy a car or house. Good credit can mean lower interest rates.
Facts about credit reports and scores
- FICO (Fair Isaac and Company) scores make up an individual's credit rating and are widely used by lenders to approve loans. Individuals have three FICO scores, one for each credit bureau (e.g., Experian, TransUnion, and Equifax).
- A score is a snapshot of an individual's credit risk at a particular point in time.
- The credit score influences the credit that is available to an individual, and the terms (interest rate) that lenders will offer.
- The higher the score, the lower the risk for the lender.
- Each lender has its own strategy, including the level of risk it finds acceptable for a given credit product.
- There is no single "cutoff score" used by all lenders.
- Lenders may consider other items when making a credit decision, including income, length of employment at present job, and type of credit being requested.
- The credit score considers both positive and negative information about the individual's credit history. Late payments will lower the score, but establishing or re-establishing a good track record of making payments on time will raise the score.
- The credit score takes into account five percentage factors that include:
- Payment history — 35%
- Amounts owed — 30%
- Length of credit history — 15%
- New credit — 10%
- Types of credit in use — 10%
Tips for raising credit history scores
- Keep balances low on credit cards and other revolving credit.
- Pay off debt rather than moving it around. Owing the same amount but having few open accounts may lower the score.
- Don't close unused credit cards as a short term strategy to raise the score.
- Don't open a number of new credit cards that you don't need, just to increase available credit. This approach could backfire and actually lower the score.
Additional tips
- Review a credit report from each credit reporting agency at least once a year and especially before making a large purchase, like a house or car.
- To request a copy, contact the credit reporting agencies directly:
- Equifax: (800) 685-1111, www. Equifax.com
- Experian: (888) 397-3742, www. Experian.com
- TransUnion: (800) 888-4213, www.transunion.com
- Individuals who are turned down for credit have the right to obtain the reason for the rejection within 30 days under the Equal Credit Opportunity Act (ECOA). Also, a free copy of the credit bureau's report can be obtained within 60 days.
The cost of credit
High interest and small payments can keep individuals in debt for years. Credit is not free money. An average daily balance of $5,000 on a credit card charging 18 percent interest, can amount to $900 a year in interest charges. Furthermore, an average daily balance of $5,000 on a credit card charging 22 percent interest can amount to $1,100 a year in interest.
Example: Timeframe for paying off $1,000
Following is an example of how long it can take to pay off $1,000 when paying the 2 percent minimum monthly payment at select interest rates:
Understanding and calculating your debt rate
The debt rate is the percentage of take home pay that goes to paying debts. On average, most Americans have a debt rate of approximately 12 percent.
The first step in measuring your debt is to list all your debts including auto loans, school loans, personal loans, time-payment loans, and credit cards. Do not enter your mortgage or rent. Then, enter your average monthly payment for each account. Finally add up the payments.
| Example: | |
| Student loan | $300 |
| My credit card | $100 |
| Car payment | $250 |
| Total monthly debt payment | $650 |
| Monthly take-home pay | $3000 |
| Total monthly debt | $650 |
| Divide your monthly take-home pay by your total monthly debt to calculate your debt rate: | $650/3000 = 22% |
The average American family's take-home income should be allocated close to the following breakdown each month:
*Housing: Rent or mortgage payment
*Child Care: Daycare and/or after-school programs
*Food: Items bought at the grocery store (food and non-essentials)
*Debt: Car payment, credit cards, bank loans, student loans, installment loans, etc.
*Utilities: Electricity, gas, water, sewer/garbage collection
*Miscellaneous: Other expenses not included above ( personal care items, pet supplies, auto repairs, home repairs, eating out, entertainment, cable TV, newspapers, magazines, gifts, postage, etc.)
*Savings: Emergency fund savings, other savings for specific goals or needs, long-term goals (house, car, college)
*Transportation: Operating costs (gasoline, oil, oil changes, etc.)
*Insurance: Life, auto, rental (personal property), health (unless deducted by employer), homeowners (if not included in house payment)
*Clothing: Clothing and shoes
*Medical: Out-of-pocket costs not covered by insurance (deductibles, copay, items not covered by insurance)
A federal student loan is a better option for students needing to finance educational expenses.
Typically, students will seek to finance their educational expenses through different types of educational debt. In general, the federal student loan programs provide the best option, in terms of interest rates and repayment options, available to students. In counseling students, campus administrators should encourage student to seek federal student loans before seeking other forms of educational debt. A brief description of the federal student loans follows:
Subsidized Federal Stafford Loans — These loans allow the federal government to pay the interest on the loan while the student is attending school, during grace periods and deferments.
Unsubsidized Federal Stafford Loans — The borrower is responsible for paying all the interest that accrues during school, grace and deferment periods. Unsubsidized Stafford Loans are available to dependent and independent students who do not qualify for Subsidized Stafford Loans.
Federal PLUS (Parent) Loans — The borrower is the parent, who is responsible for paying all the interest that accrues.
More expensive loan options
Credit Cards — Credit card companies do not offer deferment benefits and are also more expensive in the long run because of high interest rates charged.
Alternative (private) student loans — Alternative student loans, also called private student loans, should be used as a last resort. Students are encouraged to apply for federal student loans before considering an alternative student loan. These loans typically offer higher interest rates than those offered by the federal student loans. Additionally, alternative student loans are based on credit and borrowers must generally meet the following eligibility requirements:
- Be an undergraduate student enrolled in a degree or certificate program
- Be enrolled at least half-time as defined by the school
- Provide proof of enrollment
- Meet credit requirements
- Have a satisfactory credit, residence and employment history of at least two years
- Have proof of current income
- Be a U.S. citizen or permanent resident and have resided in the U.S. for the previous two years, or be an international student with a qualified credit-worthy U.S. citizen or permanent resident co-signer