Test bank for personal financial planning 12th edition lawrence j gitman

Test Bank for Personal Financial Planning, 12th Edition: Lawrence J. Gitman

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Chapter 7—Using Consumer Loans TRUE/FALSE 1. Consumer loans are often used by individuals today.

ANS: T PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

2. Consumer loans are often used by individuals today to purchase nondurable items.

ANS: F PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

3. Consumer loans, like open account credit, result from a rather informal process.

ANS: F PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

4. Consumer loans are most commonly used to obtain durable goods.

ANS: T PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

5. The most common use of consumer loans are loans to purchase theater tickets.

ANS: F PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

6. The most common use of consumer loans are to purchase automobiles.

ANS: T PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

7. From a financial planning perspective, you should ask yourself how low of a payment you can get when considering using consumer loans.

ANS: F PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

8. A personal, unsecured consumer loan is most frequently used to help borrowers straighten out a critical financial situation.

ANS: F PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

9. Collateral is an item of value used to secure the principal portion of a loan.

ANS: T PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

10. The cash value of a whole life insurance policy can be used as a source of loan collateral.

ANS: T PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

11. Consolidation loans are used to purchase new furniture and appliances when many items are needed at the same time.

ANS: F PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

12. Consolidation loans are often used to help borrowers straighten out a critical financial situation.

ANS: T PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

13. Borrowing to pay for a college education is a legitimate use of credit.

ANS: T PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

14. College costs have been escalating faster than the overall rate of inflation.

ANS: T PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

15. College costs have been escalating, but not as rapidly as the overall rate of inflation.

ANS: F PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

16. The student loans with the lowest rates of interest and the best loan terms are the PLUS loans.

ANS: F PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

17. The student loans with the best loan terms are the Stafford and the Perkins loans.

ANS: T PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

18. PLUS loans are made to parents or legal guardians rather than to the student.

ANS: T PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

19. Student loans are made by banks and other financial institutions, but students apply for these loans through their universities.

ANS: T PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

20. In order to receive student loans, the student must be making satisfactory progress in his academic program.

ANS: T PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

21. 529 Plans are the newest type of student loans.

ANS: F PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

22. The student loans with the lowest rates of interest and the best loan terms are the PLUS loans.

ANS: F PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

23. Earnings on 529 college savings plans can be tax free when used for qualifying college education expenses.

ANS: T PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

24. Student loan debt can be discharged by filing for bankruptcy.

ANS: F PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

25. Single payment loans are used mostly for short-term financing.

ANS: T PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

26. Installment loans are typically repaid in one payment.

ANS: F PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

27. Installment loans are typically repaid in monthly payments.

ANS: T PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

28. The repayment period on most installment loans is six to twelve months.

ANS: F PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

29. The majority of consumer loans are set up with fixed interest rates.

ANS: T PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

30. When the market interest rate goes up, the rate on variable rate loans goes up.

ANS: T PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

31. Variable rate loans are desirable if interest rates are expected to fall in the future.

ANS: T PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

32. Both single-payment and installment loans can have variable interest rates.

ANS: T PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

33. Commercial banks are generally more selective in granting loans than finance companies.

ANS: T PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

34. Credit unions dominate the consumer loan market.

ANS: F PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

35. Savings and loan associations dominate the consumer loan market.

ANS: F PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

36. Consumer finance companies usually charge lower rates of interest than commercial banks.

ANS: F PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

37. Most loans made by consumer finance companies are for larger amounts and are made to low risk borrowers.

ANS: F PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

38. Credit unions grant loans only to members of the credit union.

ANS: T PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

39. Credit unions offer some of the most attractive loan terms available.

ANS: T PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

40. The primary type of loan made by a savings and loan association is the long-term installment loan used for the purchase of a home.

ANS: T PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

41. Savings and loan associations are allowed to make loans for things like cars, boats, and motorcycles.

ANS: T PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

42. Sales finance companies commonly purchase the retail installment contracts of businesses that sell big-ticket items such as automobiles, furniture, and appliances.

ANS: T PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

43. GMAC is an example of a captive sales finance company.

ANS: T PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

44. When shopping for an automobile, it is best to shop for the loan after you go to the dealer's showroom.

ANS: F PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

45. Cash value loans are available from all types of life insurance policies.

ANS: F PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

46. Loans from whole life insurance policies are structured so that the interest rate on the loan is set at the time the loan is made.

ANS: T PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

47. Life insurance loans are income tax-free.

ANS: T PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

48. Because no written contract is usually required, borrowing from friends and relatives is advisable.

ANS: F PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

49. When loaning money to a friend or family member, it is advisable to lend only the amount that you can afford to give away.

ANS: T PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

50. When comparing two installment loans with the same principal and APR, the loan with the longer maturity will have the lower monthly payment and the higher total costs.

ANS: T PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

51. When comparing two installment loans with the same principal and APR, the loan with the shorter maturity will have the lower monthly payment and the lower total costs.

ANS: F PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

52. It is becoming increasingly frequent for longer-term installment loans to carry variable interest rates.

ANS: T PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

53. Generally speaking, variable rate loans are desirable if interest rates are expected to increase over the course of the loan.

ANS: F PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

54. Rebates are almost always more cost effective than the lower interest rate offered on automobile loans.

ANS: F PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

55. One can calculate whether to take the lower interest rate or the rebate with a financial calculator.

ANS: T PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

56. Generally, collateral for an installment loan may be seized and liquidated by the lender if the borrower has paid the loan in full.

ANS: F PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

57. If a loan has a prepayment penalty, there will be an additional cost to repays a loan early.

ANS: T PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

58. A chattel mortgage is a legal claim that gives lenders the right to liquidate specific personal property to satisfy their claims in the event of default.

ANS: T PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

59. When simple interest is used, the stated rate of interest on single payment loans is equal to the annual percentage rate (APR).

ANS: T PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

60. With the discount method, the finance charges are calculated and then added to the amount borrowed.

ANS: F PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

61. An installment purchase agreement typically includes a sales contract, a security agreement, a note, and an insurance agreement.

ANS: T PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

62. Garnishment is limited in amount by the Federal Garnishment Law. ANS: T PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

63. Simple interest on an installment loan is charged only against the initial loan principal.

ANS: F PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

64. The add-on method is less expensive than the simple interest method when stated rates of interest are identical.

ANS: F PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

65. If the add-on method is used to calculate a finance charge of $150.80 on a $2,200 loan, the amount to be repaid is $2,200.

ANS: F PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

66. If the add-on method is used to calculate a finance charge of $100.80 on a $1,800 loan, the amount to be repaid is $1,900.80.

ANS: T PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

67. If the discount method is used to calculate a finance charge of $250.60 on a $2,400 loan, the amount to be disbursed to the borrower is $2,400.

ANS: F PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

68. If the discount method is used to calculate a finance charge of $250.60 on a $2,400 loan, the amount to be repaid is $2,400.

ANS: T PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

69. The most accurate method currently available for calculating the annual percentage rate (APR) on an add-on loan is the Rule of 78.

ANS: F PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

70. If a 12-month installment loan is prepaid at the end of 6 months, less than one half of the interest would be saved.

ANS: T PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

71. In most cases, lenders will liquidate the collateral until the loan is paid.

ANS: F PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

72. An acceleration clause allows the lender to require immediate repayment of the interest due if you miss a payment.

ANS: F PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

73. The purchase of credit life insurance is highly recommended by most financial planning experts.

ANS: F PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

MULTIPLE CHOICE 1. Long-term financial goals often depend on borrowing funds. The type of loan that does not fulfill the long-term goal achievement is ____ loans. a. consumer b. installment c. automobile d. mortgage e. single payment ANS: E PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

2. A characteristic of consumer loans is that they a. include a negotiated contract. b. are arrived at through a formal process. c. include a repayment schedule. d. are used to purchase big-ticket durable goods and other items. e. are all of these.

ANS: E PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

3. A consumer loan probably would not be used to a. purchase an auto. b. pay for college tuition. c. consolidate several loans into one. d. finance a special vacation. e. buy back-to-school clothes.

ANS: E PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

4. The most popular use of consumer loans is to

a. b. c. d. e.

purchase a car. finance a college education. finance a vacation. buy a house. buy furniture.

ANS: A PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

5. A personal consumer loan could be used to a. consolidate several loans into one. b. purchase a car. c. cover a temporary cash shortfall. d. buy a mobile home. e. do all these things.

ANS: E PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

6. Consumers whose debt burden has become very heavy might apply for a(n) a. personal loan. b. single payment loan. c. buy-down loan. d. consolidation loan. e. interim financing.

ANS: D PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

7. To qualify for a Stafford loan, you must a. demonstrate financial need. b. have a good credit rating. c. make satisfactory academic progress. d. all of the above e. a and c only ANS: E PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

8. To qualify for a Perkins loan, you must a. demonstrate financial need. b. visit the financial institution. c. apply through your parents. d. all of the above e. a and c only ANS: A PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

9. Regarding student loans, which of the following is not true? a. They are available for both undergraduate and graduate students. b. Applications can be filled out on the Internet. c. There is no limit on how much can be borrowed. d. There is no limit on the number of loans one can have. e. Interest may be tax deductible.

ANS: C PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

10. Regarding student loans, which of the following is true? a. They are available only for undergraduate. b. Parents (or legal guardians) must cosign. c. There is a limit on how much can be borrowed. d. There is a limit on the number of loans one can have. e. Interest does not have to be repaid.

ANS: C PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

11. ____ loans do not have to be repaid until after you graduate from college. a. Stafford and Perkins b. Stafford and PLUS c. Perkins and PLUS d. PLUS and SLS e. Perkins and SLS ANS: A PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

12. Which of the following is accurate concerning 529 college savings plans? a. Contributions are tax deductible for both state and federal income taxes. b. Earnings are tax-free when used for qualifying educational expenses. c. They have no impact on qualifying for financial aid. d. There is no limit on how much can be contributed. e. All of the above.

ANS: B PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

13. If your installment loan has a variable interest rate, a. the rate will remain the same over the life of the loan. b. the amount you borrowed will change with interest rates. c. you cannot accurately predict the total interest you will pay on the loan. d. you can calculate the total interest you will pay on the loan. e. your monthly loan payment will change every month.

ANS: C PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

14. Commercial banks generally charge lower interest rates than other lending institutions because a. they make shorter term loans. b. they usually take only the best credit risks. c. depositors require lower rates. d. they get their funds in the open credit market. e. they make secured loans only.

ANS: B PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

15. A ____ is often a source of low-rate automobile financing on specific models of vehicles. a. savings and loan association

b. c. d. e.

credit union commercial bank consumer finance company captive finance company

ANS: E PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

16. If you needed a loan to buy furniture, the lowest interest rate would usually be available from a a. savings and loan association. b. pawn shop. c. captive finance company. d. consumer finance company. e. credit union.

ANS: E PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

17. The highest interest rate installment loans are usually made by a. consumer finance companies. b. commercial banks. c. credit unions. d. savings and loan associations. e. life insurance companies.

ANS: A PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

18. Credit unions lend money to qualified people who are a. employees. b. members. c. previous borrowers. d. policyholders. e. stockholders.

ANS: B PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

19. The majority of loans made by savings and loan associations are ____ loans. a. home improvement b. auto c. mortgage d. education e. consolidation ANS: C PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

20. Sales finance companies a. lend money to retailers. b. buy installment loans from retailers. c. sell installment loans to retailers. d. lend money to consumers. e. sell installment loans to banks.

ANS: B

PTS: 1

NAT: Tier 1: Analytic skills

LOC: Tier 2: Time value of money 21. The largest sales finance companies are captive finance companies such as a. Bank of America. b. the Federal Home Loan Bank. c. Ford Credit Corporation. d. credit unions. e. Home Savings and Loan Association.

ANS: C PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

22. A loan from the cash value of your life insurance policy would be characterized by a. increased death benefits to beneficiaries. b. increased premiums. c. unchanged death benefits available to beneficiaries. d. no specific repayment date. e. annual percentage rates higher than other sources.

ANS: D PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

23. Bob Shockey borrowed $25,000 from his $250,000 cash value life insurance policy to send his daughter to private college. Assuming he pays interest as in accrues, if Bob dies before the debt is repaid his beneficiary will receive a. $275,000. b. $250,000. c. $225,000. d. $ 25,000. e. Taxable income.

ANS: C PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

24. Which of the following are recommended if you loan money to a friend or relative? a. Charge a market rate of interest. b. Have a lawyer draft a loan contract. c. Put the agreement in writing. d. Make the loan due within one year or less. e. All of the above ANS: C PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

25. Which of the following are recommended if you loan money to a friend or relative? a. Do it in a business-like fashion. b. Charge interest if the loan is not to be quickly repaid. c. Be sure both parties understand it is a loan, not a gift. d. Lend only money you can afford to give away. e. All of the above ANS: E PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

26. Besides the finance charge, you should also consider ____ when you shop for a consumer loan.

a. b. c. d. e.

loan maturity total cost of the loan collateral repayment penalties all of the above

ANS: E PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

27. Your debt safety ratio a. does not include your home mortgage payment. b. is acceptable if it stays below 30%. c. need not be calculated for consumer loans. d. is calculated only for credit card debt. e. is a percentage of your gross income.

ANS: A PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

28. Tom and Jane have been reviewing their financial statements. Using the following information, they have asked you to determine their debt safety ratio and advise them about assuming more debt in the future.

Assets Monthly take-home income Monthly mortgage payment Monthly credit payments Monthly loan payments

$53,750 3,800 900 300 500

a. Tom and Jane have a manageable debt ratio and can assume more debt. b. Tom and Jane have a debt ratio that is very low and can consider assuming more debt. c. Tom and Jane have a debt ratio around the danger range and should wait before assuming more debt. d. Tom and Jane have a debt ratio that is very high and should assume no more debt. e. It is impossible to tell what they should do.

ANS: C PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

29. A single-payment loan is advantageous only if a. the interest rate is less than on an installment loan. b. funds will be available to repay the lump sum. c. figured with discount method. d. figured with simple interest method. e. it is unsecured.

ANS: B PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

30. Mike and Amanda have been reviewing their financial statements. Using the following information, they have asked you to determine their debt safety ratio and advise them about assuming more debt in the future.

Monthly take-home income Monthly credit payments

4,100 100

Monthly auto loan payments Monthly student loan payments

400 600

a. Mike and Amanda have a manageable debt ratio and can assume more debt. b. Mike and Amanda have a debt ratio that is very low and can consider assuming more debt. c. Mike and Amanda have a debt ratio around the danger range and should wait before assuming more debt. d. Mike and Amanda have a debt ratio that is very high and should assume no more debt. e. It is impossible to tell what they should do.

ANS: D PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

31. A single payment loan a. is generally unsecured by collateral. b. usually matures in one year or less. c. usually matures in five to seven years. d. is generally used to finance auto purchases. e. is provided by sales finance companies.

ANS: B PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

32. If you borrow money on a single payment loan and discover you cannot pay it back when it is due you should a. let the payment become past due. b. consolidate the loan. c. convert the loan to installments. d. negotiate a rollover e. file bankruptcy ANS: D PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

33. When the simple interest method is used to determine finance charges, the interest is calculated based on the a. ending balance of the loan. b. average outstanding balance. c. actual balance of the loan. d. beginning balance of the loan. e. none of these.

ANS: C PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

34. Annual percentage rate is equivalent to a. dollar cost of credit method. b. discount method. c. average loan balance method. d. add-on method. e. simple interest method.

ANS: E PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

35. The annual percentage rate (APR) on a single payment loan for $1,000 at a simple interest rate of 12% is a. 10%. b. 12%. c. 15%. d. 18%. e. 24%.

ANS: B PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

36. The ____ in an installment purchase contract indicates whether or not the lender has control over the item being purchased. a. note b. credit life insurance c. sales contract d. security agreement e. add-on clause ANS: D PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

37. A note is the a. agreement allowing the installment lender to control the item being purchased. b. promise to repay. c. sales contract. d. purchase agreement. e. insurance agreement.

ANS: B PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

38. The ____ legally binds the borrower and lender to all items and conditions of an installment contract. a. note b. contract c. security agreement d. sales contract e. bond ANS: A PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

39. Purchasing credit life or disability insurance protection is usually a. required in order to make the loan. b. non-negotiable. c. at the lender's option. d. very costly. e. a good idea for the borrower.

ANS: D PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

40. When credit life or disability insurance protection is required as a condition of a loan, the cost a. must be added to the finance charge. b. must be included in the APR calculation.

c. is generally very reasonable. d. a and b e. a, b, and c ANS: D PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

41. An acceleration clause a. gives the purchaser recourse to the seller if a third party purchased the contract. b. demands all interest to be paid when an installment payment is missed. c. gives the lender security in all goods purchased. d. demands loan repayment when a payment is missed. e. allows prompt access to one s salary or wages.

ANS: D PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

42. A(n) ____ clause gives the lender legal recourse in collecting the debt if the borrower does not pay. a. add-on b. sales c. acceleration d. garnishment e. balloon ANS: D PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

43. Installment loans using the simple interest method a. have the highest finance charges of any method. b. have interest charged only on the monthly loan balance. c. do not have balloon payments. d. have a lower APR than the stated interest rate. e. have a higher APR than the stated interest rate.

ANS: B PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

44. You want to borrow $1,000 at an interest rate of 10%. The most expensive method of calculating the dollar cost of the interest on this installment loan will be the a. add-on method. b. double declining balance method. c. discount method. d. simple interest method. e. past-due balance method.

ANS: A PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

45. The monthly payment on an 8%, 36-month, add-on loan for $10,000 would be a. $278 b. $300 c. $314 d. $344 e. $380 ANS: D

PTS: 1

NAT: Tier 1: Analytic skills

LOC: Tier 2: Time value of money 46. Home equity loans are similar to other installment loans except a. interest rates are generally higher. b. the interest paid is generally tax deductible. c. no home equity is required. d. they are typically unsecured debts. e. a and c ANS: B PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

47. Sometimes it may be better to use savings rather than borrow to make a purchase. This would be recommended when a. the borrower has adequate savings. b. interest rates are rising. c. interest rates are falling. d. the cost of borrowing is greater than the interest earned on the savings. e. interest earned on savings is greater than the interest paid on the loan.

ANS: D PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

48. A legal claim that allows credits to liquidate loan collateral is a a. loan. b. note. c. security claim. d. lien. e. none of these ANS: D PTS: 1 LOC: Tier 2: Time value of money

NAT: Tier 1: Analytic skills

COMPLETION INSTRUCTIONS: Choose the word or phrase in [ ] which will correctly complete the statement.

Select A for the first item, B for the second item, and C if neither item will correctly complete the statement.

1. Consolidation loans are generally [inexpensive | expensive].

ANS: b PTS: 1

NAT: Tier 1: Analytic skills

LOC: Tier 2: Time value of money

2. Loan repayment of a [Perkins | PLUS] loan would not begin until a student is out of school.

ANS: a PTS: 1

NAT: Tier 1: Analytic skills

LOC: Tier 2: Time value of money

3. Loan repayment of a [PLUS | Stafford] loan would begin a month after the loan is received.

ANS: a

PTS: 1

NAT: Tier 1: Analytic skills

LOC: Tier 2: Time value of money

4. To get a government-backed student loan, one should contact his [bank | university].

ANS: b PTS: 1

NAT: Tier 1: Analytic skills

LOC: Tier 2: Time value of money

5. The interest paid on a student loan [is sometimes | is not] tax deductible.

ANS: a PTS: 1

NAT: Tier 1: Analytic skills

LOC: Tier 2: Time value of money

6. There is a limit on the [number | dollar amount] of student loans you can have.

ANS: b PTS: 1

NAT: Tier 1: Analytic skills

LOC: Tier 2: Time value of money

7. 529 plans are best suited for a child [already in college | with several years left before going to college].

ANS: b PTS: 1

NAT: Tier 1: Analytic skills

LOC: Tier 2: Time value of money

8. A 529 plan is a [savings | lending] plan.

ANS: a PTS: 1

NAT: Tier 1: Analytic skills

LOC: Tier 2: Time value of money

9. The majority of consumer loans are made with [fixed | variable] interest rates.

ANS: a PTS: 1

NAT: Tier 1: Analytic skills

LOC: Tier 2: Time value of money

10. When interest rates are rising, you would prefer a [fixed-rate | variable-rate] loan.

ANS: a PTS: 1

NAT: Tier 1: Analytic skills

LOC: Tier 2: Time value of money

11. When interest rates are falling, you would prefer a [fixed-rate | variable-rate] loan.

ANS: b PTS: 1

NAT: Tier 1: Analytic skills

LOC: Tier 2: Time value of money

12. The majority of single payment loans [are | are not] secured by collateral.

ANS: b PTS: 1

NAT: Tier 1: Analytic skills

LOC: Tier 2: Time value of money

13. Another term for a signature loan is a [secured | non-collateralized] loan.

ANS: b PTS: 1

NAT: Tier 1: Analytic skills

LOC: Tier 2: Time value of money

14. Almost half of all consumer loans are made by [commercial banks | finance companies].

ANS: a PTS: 1

NAT: Tier 1: Analytic skills

LOC: Tier 2: Time value of money

15. You must be a member of a [credit union | S&L] in order to borrow money there.

ANS: a PTS: 1

NAT: Tier 1: Analytic skills

LOC: Tier 2: Time value of money

16. [Consumer finance companies | Credit unions] obtain funds from their shareholders and through open market borrowing.

ANS: a PTS: 1

NAT: Tier 1: Analytic skills

LOC: Tier 2: Time value of money

17. A [sales finance company | captive finance company] purchases notes drawn up by sellers of typically big-ticket items.

ANS: a PTS: 1

NAT: Tier 1: Analytic skills

LOC: Tier 2: Time value of money

18. Borrowing from relatives is [highly | seldom] recommended by financial advisors.

ANS: b PTS: 1

NAT: Tier 1: Analytic skills

LOC: Tier 2: Time value of money

19. Loans to relatives and friends should be [verbal | written] agreements.

ANS: b PTS: 1

NAT: Tier 1: Analytic skills

LOC: Tier 2: Time value of money

20. Your budget should be considered [before | after] taking on a large consumer loan.

ANS: a PTS: 1

NAT: Tier 1: Analytic skills

LOC: Tier 2: Time value of money

21. The longer the loan maturity, the [lower | higher] the monthly payments will be.

ANS: a PTS: 1

NAT: Tier 1: Analytic skills

LOC: Tier 2: Time value of money

22. If you want to calculate whether to take the rebate or the low interest rate on an auto financing deal, it would be most useful to have [time value of money tables | a financial calculator].

ANS: b PTS: 1

NAT: Tier 1: Analytic skills

LOC: Tier 2: Time value of money

23. The longer the loan maturity, the [lower | higher] the total finance costs will be.

ANS: b PTS: 1

NAT: Tier 1: Analytic skills

LOC: Tier 2: Time value of money

24. Your debt safety ratio should not exceed [20% | 30%] of your monthly take-home pay.

ANS: a PTS: 1

NAT: Tier 1: Analytic skills

LOC: Tier 2: Time value of money

25. You are borrowing $1,000, APR is 10%, and the loan maturity is one year. Total interest charges will be higher if [you pay off the loan in 12 monthly installments | you make one payment in full at the end of the year].

ANS: b PTS: 1

NAT: Tier 1: Analytic skills

LOC: Tier 2: Time value of money

26. It is [legal | illegal] for a lender to charge a pre-payment penalty.

ANS: a PTS: 1

NAT: Tier 1: Analytic skills

LOC: Tier 2: Time value of money

27. Borrowers are more likely to ask for a(n) [single payment | installment payment] consumer loan.

ANS: b PTS: 1

NAT: Tier 1: Analytic skills

LOC: Tier 2: Time value of money

28. [Interim financing | Single-payment loan] is used in situations where the funds to be used for repayment are known to be forthcoming.

ANS: a PTS: 1

NAT: Tier 1: Analytic skills

LOC: Tier 2: Time value of money

29. Calculating interest using the [discount | simple interest] method will result in the higher APR on a single-payment loan.

ANS: a PTS: 1

NAT: Tier 1: Analytic skills

LOC: Tier 2: Time value of money

30. If the proceeds from the sale of your repossessed collateral are insufficient to pay the balance due on your loan, the lender usually [can | cannot] collect the deficiency from you.

ANS: a PTS: 1

NAT: Tier 1: Analytic skills

LOC: Tier 2: Time value of money

31. Credit life insurance [is | is not] a good financial deal from the perspective of the borrower.

ANS: b PTS: 1

NAT: Tier 1: Analytic skills

LOC: Tier 2: Time value of money

32. An [add-on | acceleration] clause allows the lender to demand repayment of the entire debt if the borrower defaults on his payments.

ANS: b PTS: 1

NAT: Tier 1: Analytic skills

LOC: Tier 2: Time value of money

33. The legal method of getting an employer to pay a portion of the borrower's wages to the lender is known as wage [withholding | garnishment].

ANS: b PTS: 1

NAT: Tier 1: Analytic skills

LOC: Tier 2: Time value of money

34. Using [simple | add-on] interest would be less expensive for the borrower when determining the total to be paid to the lender.

ANS: a PTS: 1

NAT: Tier 1: Analytic skills

LOC: Tier 2: Time value of money

35. The Rule of 78 is used to calculate [APR | balance due] when an installment loan is paid off early.

ANS: b PTS: 1

NAT: Tier 1: Analytic skills

LOC: Tier 2: Time value of money

36. A finance company uses the discount method of calculating interest. The loan principal is $5,000, the interest rate is 10%, and repayment is expected in two years. You will receive [$5,000 | $4,000] from the lender.

ANS: b PTS: 1

NAT: Tier 1: Analytic skills

LOC: Tier 2: Time value of money

37. You are borrowing $5,000 at 9%. You may choose a 24 or 36 month repayment plan. Monthly payments will be higher with the [24 | 36] month plan.

ANS: a PTS: 1

NAT: Tier 1: Analytic skills

LOC: Tier 2: Time value of money

38. You are borrowing $5,000 at 9%. You may choose a 24 or 36 month repayment plan. The total finance cost will be higher with the [24 | 36] month plan.

ANS: b PTS: 1

NAT: Tier 1: Analytic skills

LOC: Tier 2: Time value of money

39. When the interest rate on savings is higher than the interest rate on a loan, it is less expensive to [borrow | use savings] to make a purchase.

ANS: a PTS: 1

NAT: Tier 1: Analytic skills

LOC: Tier 2: Time value of money

40. When the interest rate on savings is lower than the interest rate on a loan, it is less expensive to [borrow | use savings] to make a purchase.

ANS: b PTS: 1

NAT: Tier 1: Analytic skills

LOC: Tier 2: Time value of money

PROBLEM 1. Jamil is purchasing a new truck for $30,000. Jamil is making a $2,000 down payment, and he will make 60 monthly payments of $541 each. What are the total finance costs on this loan?

ANS: Loan amount = $28,000 ($30,000 - $2,000) Total monthly payments = $32,460 ($541  60) Total cost of loan = $4,460 PTS: 1

NAT: Tier 1: Analytic skills

LOC: Tier 2: Time value of money

2. Christine just finished her first year of work following graduation, and she feels it is time she assess her financial situation. Her annual gross income is $45,000, and her income after taxes is $35,800. She has the following liabilities. What is Christine's debt safety ratio, and what does it say about Christine's financial situation?

Auto loan Education loan Credit card debt Personal line of credit Home mortgage

Balance $ 6,000 $10,000 $ 1,200 $ 3,900 $75,000

Payment $ 265 $ 250 $ 58 $ 195 $ 550

ANS: ($265 + $250 + $58 + $195)/($35,800/12) = $768/$2,983 = 26% 26% is over the danger point of 20%. Christine needs to concentrate on paying off debt.

PTS: 1

NAT: Tier 1: Analytic skills

LOC: Tier 2: Time value of money

3. Jamie is going to buy some furniture with a single payment loan that is discounted. The loan will be for $5,000 for 2 years at 10% interest. Calculate the APR on this loan. (Show all work.)

ANS: Finance charge = $5,000  .10  2 = $1,000 Annual finance charge = $1,000/2 = $500 Average loan = $5,000 - $1,000 = $4,000 APR =

= .125 or 12.5%

PTS: 1

NAT: Tier 1: Analytic skills

LOC: Tier 2: Time value of money

4. Calculate the average percentage rate (APR) for an add-on loan with 36 monthly installments. The principal is $4,000; the stated interest rate is 6%. (Show all work.)

ANS:

where:

M = number of payments in a year N = number of payments over entire loan F = total finance charges P = principal F = $4,000 .06  3 = $720

PTS: 1

NAT: Tier 1: Analytic skills

LOC: Tier 2: Time value of money

5. Calculate the finance charge and the monthly payment on a $20,000 add-on installment loan with an interest rate of 9% and a term of 5 years. (Show all work.)

ANS: Finance charge = $20,000 .09  5 = $9,000 Monthly payment = PTS: 1

= $483.33 NAT: Tier 1: Analytic skills

LOC: Tier 2: Time value of money

6. Downward Motors has offered Vicki either a $2,500 rebate or a 2%, 4-year loan on the new SUV she is purchasing for $33,000 with a $3,000 down payment. Vicki has done her homework and knows that she can get a 6%, 4-year loan at his credit union. Should Vicki take the rebate or the 2% loan from the dealer? (Show your key strokes.)

Test Bank for Personal Financial Planning, 12th Edition: Lawrence J. Gitman

ANS: PV = 30,000 I = 2/12 N = 4  12 PMT = $651

PMT = (651) I = 6/12 N = 4  12 PV = 27,720

$30,000 - 2,500 $27,500

$27,720 - 27,500 $ 220

Taking the rebate and financing the SUV through the credit union will save Vicki $220. She should take the rebate.

PTS: 1

NAT: Tier 1: Analytic skills

LOC: Tier 2: Time value of money

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