Question

1-Explain how a credit cardholder has an interest free loan on their new purchases. When does this occur? How can the cardholder get it? [Note: This has nothing to do with a promotion or enticement or an introductory offering]

2-Compare and contrast a debit cards to writing checks. How are they the same? How are they different?

3-Why do lenders charge higher rates of interest on unsecured loans than on secured loans? Define EACH and EXPLAIN.

Answer 1

1. Interest free loan on purchases to credit card holder:

A credit card holder can get an interest free loan on new purchases if the card he holds is a 0% purchase credit card.

The card holder can get this benefit provided he has paid the minimum repayments required to be paid every month. Also, he should ensure he doesn’t make a default in payment or make a late payment in order to avail the 0% benefit.

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2. Comparison between debit cards and writing checks:

Similarities:

· Modes of monetary remittance.

· Systematic tracking of expenses is possible.

· Draws money directly from an account.

Differences:

· Debit cards offer the facility of immediate transfer of funds, checks usually take a day or two to be encashed.

· Debit cards offer immediate assurance of availability of funds. Checks have to be presented in a bank to know if it will be honoured or whether it will bounce.

· Committing fraud through a misplaced debit card is harder than it is possible with a misplaced check.

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3. Secured loans Vs Unsecured loans:

A. Secured loans :

· These loans are backed by a collateral.

· The collateral will be under the lender’s ownership till the loan is repaid in full.

· Huge amount of money is borrowed through secured loans.

· Due to the security available, these loans are provided for a long period of time too.

· Interest rates will be lower.

· Examples : Home loan, mortgage.

B. Unsecured loans:

· No collateral is available.

· Usually is associated with borrowing smaller amount of money.

· Loan is provided after checking the financial stability of the borrower.

· Financial risk is greater for the lender in case of default.

· Interest rates will be higher.

· Examples : credit cards, student loans.

Thus, lenders charge higher interest on unsecured loans due to the lack of a collateral security. The risk of default is inevitable in the case of all kinds of loans. But the lender of the unsecured loan does not have any asset of the borrower to recover some amount of the loan in case a default occurs.