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Basics of Borrowing and Credit in Georgia

This document tells you the following:

• What do people do when they do not have the cash to buy something they need?
• What is credit?
• What is the difference between a loan and a credit sale?
• What is the difference between secured and unsecured credit?
• What is open-end credit?  What is closed-end credit?
• What do you do if you find a mistake in your monthly credit card statement?

BORROWING

Often people do not have enough available cash to pay for something they need or want. What do they do then? What can the following people do?

• Bart's dental bill will be more than $1,000—more money than he has in savings.
• Jane wants to fly to Los Angeles for her sister's wedding, but she doesn't have enough cash for the ticket.
• Walter needs a car to get to his new job—but he can't save money until he begins working.

They may have to do without the items. Or they may borrow money to buy them. In other words, they may obtain some form of credit.

What is credit?

A credit transaction happens when one party provides services, goods, or money to another party based on the second person's promise to pay later. The person who has extended the credit is the creditor. The second person, who is obligated to pay back the debt, is the debtor. John borrows $10 from his father with a promise to repay it in a week. In this situation, his father is the creditor, and John is the debtor.

Credit plays a major role in today's economy. Large businesses, such as auto manufacturers, borrow millions of dollars. Governments borrow money. Individuals use credit when they get loans from banks and use credit cards. In fact, more people use credit now than ever before. 

CREDIT BASICS

It is important to understand that credit is not free. One reason is that when a creditor extends credit to a debtor, he or she gives up use of that money for a period of time. The creditor then does not have it to spend or invest. For example, if you lend a friend $100 for three months, you will not have that cash available to buy a bicycle you've been wanting when it goes on sale. Nor will you be earning interest on the money you loaned.

A second reason why credit is not free is that it involves the creditor taking a risk. What if the debtor does not repay the debt? Creditors generally want some compensation for taking that risk. For these reasons, creditors require that debtors give them some compensation. Usually, but not always, this compensation takes the form of interest. Interest is generally a percentage of the amount of the debt.

Arrangements involving credit are called credit transactions. Keep in mind that credit transactions are contracts. The general laws affecting contracts also apply to these transactions.

Loans and Credit Sales

Two types of credit are loans and credit sales. Banks, companies, and individuals lend money with the expectation that the borrower will pay it back with interest over a period of time. In a credit sale, a buyer purchases goods or services with the expectation of paying the purchase price plus interest in installments over a period of time. The following situation illustrates loans and credit.

SITUATION 1 Donna finds a car she wants at Al's automobile lot. She can pay him $1,000. Unfortunately, she is $500 short of the purchase price. Al says, "Don't worry, my finance company will lend you the $500. You don't have to pay it all now."

Is this a loan or a credit sale?

The example in situation 1 would be a loan. The dealer's finance company (like a bank) will lend the money. In this case, the dealer (Al) will be paid the full sales price immediately. Donna will borrow $500 from the finance company and pay that to Al along with the $1,000 she already has. Her debt will then be the money borrowed ($500) to pay for the car plus interest charged by the finance company.

On the other hand, Al might have said he would let Donna pay him the amount she owed for the car over time. Donna might then make six payments of $100 each during the year. Why would she pay him the extra $100? That amount is the interest that compensates Al for the delay in payment. This transaction would be a credit sale.

The distinction between a loan and credit sale is important because in most states, including Georgia, laws governing consumer credit vary according to which type of credit is extended.

Secured and Unsecured Credit

Credit may be classified as secured or unsecured, depending on what actions the creditor may take if the debtor does not repay the debt. Unsecured credit means that the creditor relies solely on the debtor's promise to repay the debt. If the debtor does not keep this promise, the creditor can sue the debtor to recover the money. However, suing a debtor who does not have the money to repay a debt is not very effective. An unsecured loan is therefore usually made only when there is little doubt that the debtor can repay it. For example, a large corporation might borrow relatively small amounts of money from a bank on an unsecured basis.

If a creditor thinks that there is a risk that repayment will not be made, he or she may require the debtor to sign a contract. This contract states that the creditor can take one or more items of the debtor's property if the debtor does not pay off the debt. This property is called collateral. When collateral is involved, credit is said to be "secured." With automobile loans, the collateral is usually the automobile itself. With bank loans, it may be a savings account.

For example, suppose you need a loan to buy a used car. You are in school and have only a part-time job. The dealer may feel unsure about your ability to pay. In this case, the dealer may require that you give him or her a security interest in the auto. A security interest is the right to repossess (or reclaim) the auto if you do not pay the debt. The dealer could then resell the car to get the money you owed. The car thus becomes collateral for the debt. You can still drive it, but the creditor has the right to take it back from you if you do not pay your debt.

A good example of a secured debt occurs when something is pawned. A person brings the pawnbroker some item of value (for example, a ring). He or she borrows money against its value. The property is left with the pawnbroker until the debt is repaid. If it is not repaid, the pawnbroker sells the property to recover the money.

Another way to get secured credit is to use a third party. This person promises to repay the debt if the debtor fails to pay. The third-party promise to repay the debt is called a guaranty; the third party becomes the guarantor. A used car dealer who is unsure about a person's ability to pay the purchase price of a car may require a third party to be involved. This third party could be a relative who works full time and agrees to pay the debt. The creditor might even require both a guaranty from the relative and a security interest in the car. A creditor can also ask for a security interest in collateral belonging to the third-party guarantor.

Open-End Credit and Credit Cards

A debtor might enter into only one credit transaction with a creditor, which could be a loan or a credit sale. The single transaction is referred to as a closed-end credit transaction.
In contrast, a debtor can enter into a series of credit transactions with the same creditor over a period of time. This arrangement is known as open-end credit.

For example, Hal wants to furnish his home with all new furniture but cannot afford to buy it all at once. He buys a sofa from EZ Furniture on credit. Before the sofa is paid off, he buys a bed from EZ Furniture on credit. Shortly after that, he buys a dresser, also on credit. In this situation, EZ Furniture is extending Hal additional credit on a number of purchases. Therefore, the two have an open-end credit relationship. This kind of credit is also called revolving credit.

A consumer must be very careful with open-end or revolving credit relationships. The creditor in this kind of relationship may require the debtor to give a securing interest in all of the items that the debtor buys during that relationship. What if the debtor fails to make a payment on any one item in this open-credit arrangement?

The creditor may have the right to repossess every single item—including items for which the purchase price was paid in full. Courts are very skeptical of these kinds of deals. They may even declare the contract void if the creditor has taken unfair advantage of the debtor (see situation 7).

Credit card purchases are another example of open credit. Goods can be bought at any time with the card. However, the credit card holder receives only one bill (or statement) for each month's purchases.

If a credit card provides open-end credit, can you spend as much as you wish? No. Credit card issuers assign a limit to the credit that each cardholder can obtain. Once that limit is reached, the issuer will refuse to approve any further purchases or cash advances.

Are credit cards free? No. The issuer may impose several different types of charges. These charges may include

• an annual card fee. Some banks charge such fees for cards. Department stores and gasoline companies usually do not.
• a monthly finance charge. This charge generally is a percentage of the amount owed. Some credit card issuers allow the consumer to avoid this charge by paying all the money owed within a specified time after receiving the monthly statement. Usually this grace period is about 30 days. Other issuers charge from the date of purchase.
• a cash advance charge. This charge is a fee for obtaining cash from bank machines by using a card or cash advance checks.
• a late payment fee.
• an over-limit charge.

State laws regulate the types and amount of charges that may be collected on credit cards. In Georgia, this law is called the Credit Card and Credit Card Bank Act. It provides for the organization of credit card banks in Georgia. It also allows lenders to impose various charges and fees on credit card accounts. Monthly statements show these fees and list all transactions on the cardholder's account during the month. These statements should be read carefully.

Suppose you discover a charge that you did not authorize or some other mistake on your monthly statement.

You should notify the card issuer promptly. The Fair Credit Billing Act requires the cardholder to notify the card issuer in writing within 60 days after the issuer sends the first bill on which an error appears.

Cardholders do not have to pay the questioned amount while the error is being investigated, but they must pay the parts of the bill that are not in question.

* Excerpted from An Introduction to Law in Georgia, Fourth Edition, published by the Carl Vinson Institute of Government, 1998 (updated 2004).  The Vinson Institute is not responsible for errors in the online text.  Content is for information only; in no way should the information in the book be considered legal advice to anyone on any matter for which there are legal implications.  Any such matter should be specifically addressed with an attorney. The book is available for purchase at or by contacting the Publications Program, Carl Vinson Institute of Government, University of Georgia, 201 M. Milledge Avenue, Athens, GA 30602; telephone 706-542-6377; fax 706-542-6239.