Analyzing Credit Card Offers

Learning Objective: to look at the cost of credit and learn to compare both rates and fees

We are going to be looking at a number of different credit offers. At times you will need your calculator to find loan payments. In order to compare these different types of loans we are going to be using the approximation for APR shown below:

r= 2 x n x 1 / P(N+1)

Here,

r = Approximate APR

n = Number of payment periods in one year (12, if payments are monthly; 52, if weekly) I = Total dollar cost of credit

P = Principal, or net amount of loan

N = Total number of payments scheduled to pay off the loan

1. Lisa is at the bank trying to get a loan for $3,000. The bank offers her two options--both have equal payments over 2 years. Option #1 is to pay monthly at an annual rate of 14%. Option #2 is to pay weekly at an annual rate of 13%.

a. What is the monthly payment for option #1?

b. What is the weekly payment for option #2? c. What is the APR for each option?

d. Which option would you recommend?

2. Ethan is trying to get a loan for $1,000 and intends to finish paying it off 1 year from today. Option #1 is a loan that costs $15 each week that the loan is still outstanding and must be paid each week along with the principal at the final payment. Option #2 is a loan with equal monthly payments at an annual rate of 98%.

a. What is the total amount of interest paid on option #1?

b. What is the monthly payment for option #2?

c. What is the APR for each option?

d. Which option would you recommend?

3. If you knew that Ethan's loan would be used to start a home business, would you recommend proceeding? Why or why not?

4. Ximena is trying to get a mortgage loan of $170,000. The bank quotes her a 15-year rate of 5.6% and a 30-year rate or 7.5%. Both of these loans involve equal monthly payment.

a. What is monthly payment for the 15-year loan? What is the total interest paid?

b. What is the monthly payment for the 30-year loan? What is the total interest paid?

c. What is the APR for each option?

d. Which option would you recommend?

5. Suppose that Ximena, from the above question, makes around $37,000 after taxes. She has heard that she should not spend more than 40% of her income on housing each year. Does this change your recommendation? Why or why not?

6. In the above scenarios would it change your recommendation if you knew how often each person got their paycheck? Why or why not?

7. Do you think that there should be a limit to the amount of interest that a source of credit can charge? Why or why not?