Debt Strategy Myth: Pay extra on your mortgage

There's once piece of financial advices that always causes me to wonder, "huh?" So many personal finance advice experts always say that you should pay extra or even double on your monthly mortgage payment with the intent of paying it down faster.

I never understand this advice for two reasons. First, if you are struggling with debt, your mortgage is likely to be the lowest interest loan that you have. Your efforts would be better allocated toward eliminating high-interest debt. And second, the interest that you pay on your mortgage loan is tax-deductible. The interest on credit cards and car loans are not tax-deductible.

Ron LoSasso, mortgage consultant at Coors Credit Union, put it like this: "I am not a fan of prepaying the home loan as once that is made the only way to get that money back is to refinance the loan, obtain a home equity line of credit or sell the house."

This is an excellent point. On average most people sell their house 7-10 years. The time spent in a house increases as we get older, but generally speaking we like to move around. There are probably dozens of better ways to use that cash.

Maybe this debt strategy myth of that paying more on your mortgage is a might make sense for somebody, but in my opinion this MYTH is BUSTED.

The Legend of the Pizza

This story has been going around the credit union universe, heck maybe even the entire universe for a quite a few years. At this point you could probably call it a folk tale. I’ve written versions of it myself. I’ve heard other people tell it. The funniest time was when some guy told me he knew the person that this happened to. So hopefully you get that it’s fiction, but like a good legend there’s a rather obvious message here.

There once was a college student who was up late writing a paper and suddenly felt hungry. So he called a local pizza joint for delivery. The answer to his call was the same as usual “Pizza Box, 20 minutes”. He was grateful when there was a knock at his door 45 minutes later. He wrote a check for $20 and ate the pie. After a full belly and a finished paper he gleefully slept. And life continued as usual.

Our student was busy with a full load of courses and juggling a demanding social life. Another thing you should know about our student friend is that he typically made one or two trips to the ATM a day at which time he not only got some cash, but checked his balance. Because he was environmentally aware, however, he always selected “no” in answer to the question, “Would you like a receipt?” He also was a good citizen and signed up for online banking and electronic statements. However, because the student was so busy he rarely looked at his online banking account; in fact it had been almost six months since he last logged on. Still he believed that since followed all these basic norms, he had things under control. But horror looked in what he didn’t see.

As life goes that check he wrote for pizza bounced. The Pizza Box charged him $25 for a returned check fee. His bank charged him $32 for overdrafting (yep, it really is this high, ask Wells Fargo). And he still had to pay the $20 for the pizza. And so that little late night pizza that may have even caused our student heartburn turned into a full blown financial nightmare and perhaps even taught a more valuable lesson than the paper it helped him write.

In some versions of the story the pizza ends up costing the student $100 or more. Some even goes so far as to have him ruin his credit and lose his car or get evicted from his apartment. And, yes, in some versions the student is female. No matter how the details of the story play out the moral is the same, and no it’s not that you shouldn’t eat pizza.

It all comes down to paying attention. If you ignore your finances or are too afraid to look at the reality you will fail—financially. Maybe you don’t want to have a ton of money, but I am certain that you would like to be secure enough to pay your bills and take care of yourself and your family. You can’t do that if you just go through the motions and think things will take care of themselves.

So the first thing you need to do to reach your financial goals is to pay attention. Make the time to look at your finances and set your goals. Don’t do it every day and don’t do a few times a year or even once a month. You’ll have much better control of what you do and where you’re headed if you take 15 minutes a week to review your financial position.

Make it a point. Schedule the time. Involve your entire family. You will control your finances and not the other way around.

Lease-Back or Repurchase Scams Prey on Desperate Homeowners

Scammers just love to kick people when they are down. The Lease-Back or Repurchase scam has been hot for awhile and people are still falling for it. In this case the potential victims are homeowners who are delinquent in mortgage payments.

The scammer promises to pay off your delinquent mortgage, repair your credit and possibly pay off credit cards and other debt. However, in order to do this, you must “temporarily” sign your deed over to a “third party” investor. You are told that once your credit is repaired you’ll “have the option” to buy back your home. Plus, you can stay in the house. You’ll just be renting, this is supposed to help you build credit also.

The trouble is once you have signed away your rights in your property, you may not be able to repurchase the property later, even if you can and want to. Once you become the renter you might realize that conditions have been set that make it impossible for you to back your home. Often this includes ridiculous time-limits and an exorbitantly high buy-back price. Your rent could be raised unreasonably and You could also be evicted by the investor owner. Typically, after the deed is signed away, the property changes hands numerous times. The scammer may have taken a new mortgage out on your home for hundreds of thousands of dollars more than your mortgage, making it impossible for you to buy back your home. Or your home may be sold and you could be tossed out.

Be careful, when things get tough the first thing you should do is consult a company that you trust—like your credit union or mortgage holder. There are legitimate programs to help homeowners who are having difficulty making payments.

Even if you are not facing foreclosure, but want to reduce your mortgage payments, or improve your debt situation, your credit union may be able to help. It doesn’t hurt to ask the credit union to review your situation; in fact there isn’t even a charge for this service. And improving your financial outlook is nothing to be embarrassed about—it’s a smart thing to do.

5 Dieting Tips That Apply to Debt Management

I've said before that the words "diet" and "budget" are nasty, negative labels that equal Catholic school guilt. But like it or not there are part of our vernacular. Most of us fuss, worry or think about each of these during different times in our lives. The other day it occurred to me that they are actually quite similar. In fact, you can look at almost any diet tip and apply it to budgeting or vice versa. Here are 5 that I quickly came up with:

1. (diet) Take off the weight slowly for long-term success (budget) Controlling debt can be a slow business

Sure some people brag about dropping 20 pounds in 3 days, but we all know that that's not true for most of us. Likewise, if you've accumulated debt you could shrink it by rolling it into a lower interest rate loan, but that's just smoke and mirrors. It's a good move, but don't fool yourself into thinking you've got control of the situation. Lowering your interest rates should always be your goal, but you've still got to work at keeping down the debt.

2. (diet) Exercise is essential for weight loss—(budget) You need to work a little to reduce debt

Just like there is no magic pill that will make you healthy and slim, there is no overnight cure for debt. You'll need to work at lowering your interest rates, consistently paying down the debt and resisting incurring new debt.

3. (diet) Stay focused on being healthy, not on becoming thin—(budget) Stay focused on building wealth, not eliminating debt

Remember to keep your long-term goal in focus. You probably want to be thinner because you want to be more attractive, but being healthier is the ultimate in beauty. And your not trying to just get rid of some debt, your goal is to build enough wealth that will enable you to live as you would like.

4. (diet) Find out why you overeat—(budget) Find out why you overspend.

Some people eat for comfort, some spend for comfort, but your debt accumulation may not be that straight forward. Maybe you've run into medical expenses or some other emergency. What have you learned from this experience? By analyzing your spending you'll see that maybe you need to aim for a larger emergency fund or curb your enthusiasm for the latest techno gizmos.

5. (diet) Weight loss support: join a weight management group—(budget) Don’t be secretive about your debt management goals.

Usually when you are on a diet everyone that you know knows about the diet. It's easier that way. When they see you reaching for the donut they'll stop you. They'll also comment on how great you're looking. Debt management, however, isn't typically the same. We wear our weight out in public, but hide our debt like a dark secret. If you're serious about paying down your debt, come out of the closet. You need the support. Without it you'll find yourself trying to fake it when friends suggest a fancy dinner and a night at the clubs. Friends who know your goals will support you. They'll understand if you only order an appetizer at the restaurant. They'll get if you'd rather go for hike than to the ballgame. And they'll be there to congratulate you when you've hit your milestones.

The common denominator in dieting and budgeting is that you need to make lifestyle changes in order to be successful. So even though I don't like those words there is just no ignoring them.

New Rules: Saving vs. Debt

The new rule on whether you should pay off debt vs. building savings is that there are no rules. I know I've been following the rule of pay down debt before adding to savings and I've touted the benefits of this strategy: debt costs more long term, savings accumulate slower. But all bets are off in this economy.

Suzy Orman just released an update to her 2009 Action Plan, and I've got to agree with her on this. Suzy says, "If you do not have a stash of cash and you have been using all your extra money to pay down your credit card debt and they keep closing your cards down- what are you going to live on if you lose your job? Chances are you may not have any available credit limit to use to rely on since the cards are reducing those limits, you will not be able to get a new card since you are now not employed. So to help you in the event you lose your job my advice is to pay just the minimum required on your credit cards every month, and then use every extra penny you have to build your emergency savings fund."

Make your goal to have 8 months of living expenses in an emergency fund. As long as you continue to make minimum payments on your credit cards your credit score should be fine. That is unless the card company doesn't reduce your limit or close down your card, which they are less likely to do as long as you pay the minimum. But don't be tempted to use the cards for charges that are not emergencies. And only then if you don't have other funds to cover the event.

If you already have a substantial emergency fund in place, keep paying down that debt. These are unusual times and it's important to be prepared for the worst while remaining flexible to changing your strategies.

More on 401(k) vs. Debt

Funny how the universe seems to converge. Yesterday my husband and I were contemplated suspended his 401(k) contributions to put toward debt. Nelisha Wilson of the Coors Investment and Retirement team gave sound advice tell us to stay in. Then later in the day I turned on NPR in my car just as a caller was asking Liz Pulliam Weston a similar question. The difference was that the caller wondered if he should reduce his contributions and put the rest toward debt.


Liz Pulliam Weston advised that it may be okay to reduce contributions as long as it was a short-term plan to control debt. She also advised not to reduce below the level that is needed for the employer match.


So last night we discussed this at home. We figured out that we would have an additional $150 after taxes to put toward debt. This is if Neil reduces his contribution but stays in enough to earn a 3% company match. As of last night we figured this was probably not worth it considering Ms. Wilson's point about a sale on stocks--which by the way was also pointed out by Ms. Pulliam Weston.


But I had to do the math and returned to the calculator. First, I have to say that I'm not proud of the debt we are carrying. Second, we are sticking to our plan to be rid of it in 2 years or less.


Here's what we're looking at:
credit card 1, Interest rate 26.99%, balance $10,000
credit card 2, Interest rate 12.99%, balance $10,000


Plan A
If we continue 401(k) contributions as is and pay $1,000/month to debt
credit card 1 will be paid in 1 year, 4 months
credit card 2 will be paid in 2 years
The total interest paid would be $3,421


Plan B
If we reduce 401(k) contributions and increase take home pay by $150/month then add this to the debt payment plan to make it $1150/month
credit card 1 will be paid in 1 year, 1 month
credit card 2 will be paid in 1 year, 8 months
The total interest paid would be $2,813


Comparing:
Plan be would rid us of credit card debt 4 months earlier and save us $608.


The big question:
What would we lose in retirement earnings? That's the one thing I can't figure out how to calculate. It's a gamble. Do we give up funding our retirement with ($150 x 24 months) $3600 to save $608? Currently the 401(k) is losing over 7%/quarter.


What would you do?

How to pay down credit card debt in 2 years

Credit cards are confusing. What seemed like a good safety net at one time can turn into a death trap. That's because so many cards have complicated APR calculations or clauses that can bump your rate just because you were late on an unrelated credit payment. Ugh!! There are so many ways they can get you.

To get the credit monkey off your back you've got to take a practical approach. But what's that? There's tons of advice out there, but here's the best way--really--to get out of the problem.

Pull out your highest interest rate card and throw money at it. Don't even look at the balance, you're only object is to get out of sufficating interest rates. Anything you can afford to pay above the minimum, do it. Look at this example.

Let's just say for example you've got a high-interest card with a $10,000 balance.
Here are few payment strategies:

Paying the Minimum Payments
Interest rate: 26.99%
Balance: $10,000
Min payment: $345
Time to payoff At minimum payment: 22yrs, 2 months
Interest paid: $16,344.45

Double the Minimum
Interest rate: 26.99%
Balance: $10,000
Min payment: $690
Time to payoff At minimum payment: 1yr, 6 months
Interest paid: $1,910.52

How much more do you need to pay?
Experts advice to pay 2-3 times the minimum but really any significant amount above the minimum will help. Let's play with the numbers from the example above. You've already seen what affect a double payment has, what about something less...

Paying just $150 over the minium for a total of $495
Time to payoff At minimum payment: 2yrs, 3 months
Interest paid: $3,127.87

It might seem a little odd not to go for the lowest balance card first. You could do that, if you want, but you're more likely to be paying out more interest that way. And if you don't believe these outrageous examples? You can plug in your own crazy credit card balances into this calculator from CNN Money. Be sure to click on the full strategy detail to see how your payments should go.

My Darkest Money Secret

If I were able I’d turn this screen black as I tell you of my dark secret. It happened back when my husband and I first moved to Colorado. Blah, blah one bad financial decision led to another and another and another until finally we were deep in debt. So deep that we avoided answering our phone. We were using credit cards to buy basic food.

Then we got hungry and we’d had enough. We wanted a house. So we turned to a credit counseling service. Eight months later our debt was under control and we bought a home.

Remember—Nobody can erase bad credit. Don’t ever believe otherwise. A good service can get you back on track, but it’s up to you to commit to keep it going. Be careful there are many shysters out there. Ask question and choose carefully.

What are their credentials? Look for accreditation from organizations such as the National Foundation for Credit Counseling, the Association of Independent Consumer Credit Counseling Agencies, Council on Accreditation and the International Organization for Standardization. Also ask about their counselor’s certification and ongoing training.

Are there any complaints? Check with the BBB and the State Attorney General’s office.

What services do they offer? Choose an agency that offers a variety of services—not just debt consolidation. If the counselor recommends a debt management plan without having conducted an interview, something’s wrong.

What’s expected? Be sure to read through the agreement and review the terms and conditions. Agreements should be written and include the counselor’s name, agency name, address, contact information, total costs (including payment details), timing, expected results, and any guarantees.

How much will this cost? Debt management programs are regulated by state law and typically run up to $40 per month. A reputable agency will let will explain all fees before you share any personal information.

There was a point when I never believed we could turn things around. Fortunately we chose wisely and today we’ve got a top credit score and food in the fridge.