5.1 How Credit Works

Notes

Credit is the ability to borrow money or buy now and pay later. The lender is a creditor; the borrower is a debtor.

• Borrowing costs money: interest and sometimes fees.
• A secured loan is backed by collateral (like a car) that the lender can take if you do not repay. An unsecured loan has no collateral (like most credit cards).
• Lenders check your history to decide whether to lend and at what rate.
• Example: borrow $1,000 and repay $1,100. The cost of borrowing is $100.
• Credit can be useful, but it is not extra income. You must repay it.