Debt Management
10 Basics of Financial Management
Ideas to consider as you develop your personal plan toward greater financial stability: 1. Credit is not thought of as debt. More than two‐thirds of all families use some type of credit card, and less than 50 percent of them pay off their account balance each billing period. Don't think of your credit card limit as a line of credit, but think of lines of credit as lines of debt. 2. Borrowing to make payments to creditors. What would you do if you were on a boat in the ocean? The boat has ten holes in the bottom and you have only nine corks. No matter how you move the corks around, your boat will eventually sink. Determine affordable payment amounts before you acquire a debt to avoid finding yourself borrowing from Peter to pay Paul. 3. Limit to 20 percent of your take‐home pay for all credit payments. Installment debt (including car payments and credit cards) should not exceed 20 percent of what you take home after taxes. Car payments alone sometimes meet or exceed this limit, but for some reason are often thought of separately from other consumer debt items, such as furniture, household appliances, and clothes. Include everything but the mortgage when you total up your credit payments, and keep these to no more than 20 percent of your take‐home pay. 4. Second incomes should go to pay debts. The net amount realized from a second available income may vary based on job expenses, taxes, social security, etc. It may be less than you think or would hope but should go toward debt elimination, not toward increasing debt based on the presumption of higher income. 5. Common sense credit card use. When using credit cards, be sure the item purchased lasts longer than the payments do. When you charge dinner rather than pay cash, you are basically telling the bank you want a loan to pay for it. Use credit cards only for preplanned purchases of durable goods, or for emergencies. Make out a shopping list and stick to it, don't carry credit cards or checkbooks with you, and let some time pass before making major purchases to better assess real needs versus wants. 6. Pay accounts on time. Cash flow problems can occur. Not many things cause more stress than getting behind on bills. To avoid this, create a special account for such contingencies or subtract credit card purchases just as you would checks.
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7. Pay more than the minimum each month. Many credit card repayment plans are set up so you pay only 1/36 of the principal due plus interest. The bank doesn't want you to pay your full balance too fast, they don't make as much profit. To avoid paying higher interest dollars, accelerate your payoff schedules adding as much extra to the principal as possible to each payment. 8. Make your debt repayment schedules no longer than one year. Excluding home mortgages, the ideal duration of a loan should not exceed one year. This should apply to student loans, credit cards and even to car loans as well. However, with the higher cost of a new car, it may be unrealistic to expect to pay off a car in one year. 9. Distinguishing between needs and wants. A great skill to living within your budget is the ability to distinguish between needs and wants. A need is something required for survival, a means to go on living, accomplishing, or contributing. A want is something providing greater convenience, enrichment, or pleasure. Everyone continuously distinguishes between needs and wants. Perhaps the most important step in creating a successful financial plan is to determine just how little is needed to satisfy the basic necessities. 10. Prepare a Budget. Only about 50 percent of American families use some kind of budget; about 12 percent have one written down. A budget is a systematic plan for meeting expenses during a given period, a road map directing how to get where you want to go financially. Your overall goal should be to spend your money on things you value, things that will last. A realistic, well thought‐out financial management plan is the most important factor in achieving the level of financial stability you want from your resources.
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Building Credit
Creditors are interested in extending credit to people who are likely to repay their debts and avoiding those who are most likely to default on their debts. Here are some things you can do to establish good credit: • • Pay your bills on time! A consistent history of paying bills on time gives a creditor confidence in your willingness to consistently pay back debts. Open a checking and savings account at a local bank. Having both a checking and savings account looks best when creditors look at your credit history. Having a savings account will also help you to develop the habit of saving early on. Have a telephone number set up and billed in your name. This shows a measure of stability that counts in your favor. Be sure your roommates pay their portion of the phone bill on time! Limit the number of credit cards you have. Even if you don't have a balance on your credit cards, a potential creditor will see the potential for debt, which can easily count against you. Ask a bank for a small, short‐term cash loan. Putting the money into a savings account and paying back the loan over a few months will help build your credit. The interest you earn on the account will partially offset the cost of borrowing the money in the first place. Pay your monthly student loan payment on time. This is a common way that many graduates build their credit without realizing it. As soon after graduation as possible, work toward purchasing your own home instead of renting. Paying your rent on time will help build your credit. Owning your own home and making the payments on time is even better.
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Are you in Trouble?
If you have debt or feel stress dealing with financial matters, ask yourself the following questions. If you answer "yes" to any one of them, you may be headed for trouble. 1. 2. 3. 4. 5. 6. 7. 8. 9. 10. Are your credit cards charged to the max? Do you use one credit card to make a payment on another? Are you making only minimum payments on your credit cards while still charging? Do you skip paying certain bills each month? Have you taken out a consolidation loan? Are you considering doing so? Have you borrowed money or used credit cards to pay for groceries, utilities or other necessities? Have you bounced any checks? Do your monthly loan and credit card payments–excluding your mortgage–exceed 30% of your take‐home pay? Are collection agencies calling and writing you? If you lost your job, would you immediately have trouble making ends meet?
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Credit Counseling
Credit counseling is often a good idea for people with unmanageable debt. By working with creditors to reduce the interest rate of certain types of loans, these companies can help eliminate some of your outstanding debt especially on credit cards. They can consolidate debt into a single loan with a lower rate because generally companies would rather have some of their money back than nothing at all. Working with credit‐counseling agencies is reported on your credit report and can impact your credit. Non‐profit and for‐profit credit counseling agencies can differ sharply, according to Bryan. For‐profit credit counselors are companies whose goal is to make money through helping people get out of debt. They make money on loan origination and fees. For‐profit agencies may also get homeowners into an interest‐only home loan and use the excess cash to pay down debt. These companies can charge a 2‐ month retainer upfront to work with creditors. When using a for‐profit agency, asking questions can be key to determining if they can really help you get out of debt. Bryan suggests several questions: • • • • • • • • How do they make their money? If it doesn’t make sense, go with another company. What type of loans will they help you work with? How much will it cost? When do they get paid? What is the monthly management fee? Is it tax deductible? How long does their program take? It should never be longer than five years. How much will you be paying each month? Generally, these fees are taken from a checking or savings account. Will you talk only with one person or many people?
Non‐profit credit counseling agencies are organizations set up specifically to help people reduce the credit‐card debt load. They generally run about $15‐20 for the setup and $12 per month after that. Non‐profit companies have arrangements with many of the credit card companies. Working with them, they can reduce or even eliminate your interest payments with specific creditors. Non‐profit companies receive a rebate from specific creditors for what they have been able to collect from you. Asking questions is also important when using a non‐profit agency. Include the following questions in your initial interview session: • • • • • • What is their tax ID? Are they licensed? Are they members of the National Foundation of Consumer Credit (NFCC)? Are they accredited through the Council on Accreditation? Are their counselors certified by the NFCC? What is their monthly management fee? Is it tax deductible? How long will you be in their program? It should rarely be longer than five years.
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• • How much will you be paying each month? Generally, these fees are taken from a checking or savings account. Will you work with one person or many people?
Further Reading
One for the Money: Guide to Family Finance by Marvin J. Ashton Rapid Debt‐Reduction Strategies by John F. Avanzini How to Get Out of Debt, Stay Out of Debt & Live Prosperously by Jerrold Mundis The Richest Man in Babylon by George S. Clason The Secrets to Good Credit and Debt Reduction: A Consumer Self Help Guide by D. J. Williams
Web Resources
CardRatings.com http://www.cardratings.com/cardrepfr.html CardWeb.com http://www.cardweb.com/findacard BankRate.com http://www.bankrate.com/brm/rate/brm_ccsearch.asp MyFico.com http://www.myfico.com
Credit Counseling
National Foundation for Credit Counseling (800) 388‐2227 Consumer Credit Counseling of Utah (800) 784‐0064
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