Unit3 Debt Management.pdf

Debt

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Contents

Introduction

4

Credit Cards

5

What you should know ... 5

Minimizing Trouble ... 8

Getting Out of Trouble ... 9

Get a consolidation loan ...10

Loans

11

Find the best deal. ...12

Minimizing Trouble ...13

General strategies for debt reduction

14

Fourteen Steps to Financial Freedom ...14

Bankruptcy – The Last Resort

16

When Chapter 7 Bankruptcy May Not Help You ...17

Chapter 13 Bankruptcy ...17

Introduction

Almost everyone has some kind of debt. It’s a product of the way we spend money and helps us get the things we want. And not all debt is bad – when kept to a manageable level, having some kind of debt improves your credit rating, can include an investment such as a house, and can help you get the things you want.

Far too often, however, people get in over their heads and see no way to get back to the surface. For a service member like yourself, it can even distract you from your incredibly important and dangerous job.

This e-book is designed to help you manage your debt and to give you tools to help you get out of it. No matter what your financial situation or debt load, these tools can be used to help you get back on track and have the financial future you desire.

It may seem like an impossible task – it’s much easier to get into debt than out of it. Just like any other financial strategy, it takes time, dedication and perseverance.

Credit Cards

Credit cards are not inherently bad – they allow you to make emergency purchases, are required to rent a car and, when used properly, are a good way to increase your credit rating (which will be covered later in this book).

The major drawbacks, however, are that they are very easy to use and the interest and fees quickly add up. If you educate yourself, pay close attention to your bill each month and use them with caution, you can keep yourself from getting too deep in credit card debt.

What you should know Read the fine print.

Credit card companies look for a number of ways to get your business. They may offer low rates, special gifts, some rewards for using them often or other such perks. But if you read the fine print, you will quickly notice that the rates are for those who already have superb credit, the gifts are not what they appear, and the frequent flyer miles won’t get you 50 miles away.

If you apply for and receive the card, study the terms carefully! If it is not what you thought you were getting, call and cancel it immediately. There is no penalty for doing so, and it’s much better to keep looking than to get yourself in major financial trouble.

Use the return envelope they give you.

This may seem like a silly, or even stupid, statement. It is, however, a legitimate issue that has caught some people by surprise.

Credit card companies sometimes change the address to which you send your payment. If you lose the return envelope and send it to the same address you always have, you may get charged a late fee. Always use their envelope and, if you do lose it, call them to verify the payment address.

Avoid late fees — send your payment early.

late afternoon, you will get charged a late fee and, even worse, your interest rate could increase.

The best way to avoid late fees and last-minute mix-ups is to send your payment early. If you send it only three days before it’s due you are counting on it arriving in time, getting to whomever processes the payment, and then having it credited to your account in a very short amount of time.

A great way to avoid this is to set up your budget to pay your middle-of-the-month bills at the beginning of the middle-of-the-month, and your beginning- or end-of-the-month bills in the middle of the end-of-the-month. This way, you are always a bit ahead of the game.

Another way to ensure that your payments make it on time is to pay online. Many banks and credit card companies offer this service free of charge.

Over-the-limit fees

This is a fee that you should, in theory, never incur. Unfortunately, the way in which you are paid (once a month) and the amount (often not nearly enough), can lead to overspending. The best way to avoid such a penalty is to use your credit card wisely – either only for emergencies or when you know you can afford the monthly payment. If you use your card often, make sure to keep excellent records so you know how much you have left.

Another issue is the offers to transfer your existing balances to a higher-limit and/or lower-interest card. There can be two problems with this strategy:

1. When you receive the new card, you find out that you did not qualify for the lower interest rate. The credit card company transferred your balances anyway and, after factoring in the higher-than-expected interest rate, you were over your credit limit. On top of that, they then charged you a late fee.

2. When you receive your new card, you find out that you didn’t qualify for the higher limit. Just like in the first scenario, the credit card company transferred your balances anyway and, after adding up the balance from your previous card or cards, you were over your credit limit before you even used your card.

Transferring balances

Before transferring a balance to a lower interest rate card, make sure there is not a fee. Also, ask how long the low rate lasts – many times the rate is usually only good for several months. And if you are late on a payment, the low rate is immediately replaced with a much higher one.

Be careful how many times you transfer from one card to another. Simply moving your balance every six months to take advantage of zero percent offers can lead to problems with your credit rating. It can appear on your report as an unstable credit history and more accounts will appear on your credit report.

Cash advances

Using your credit card as an ATM card is a huge mistake. The interest rate for cash advances is much higher than you think (usually higher than the interest on your regular purchases) and many times there is no grace period (the time between the withdrawal and when the credit card company starts charging you interest). Aside from paying a higher rate and having no grace period, you’re also going to pay a fee – usually 2 percent to 4 percent of the amount advanced.

Also, your monthly payments go to the balance of your regular purchases first, and the cash advance last. This means that you will continue to pay the higher interest rate until you pay off the entire balance of your card.

“Fixed” rates

Just because it says it’s a “fixed rate” card (meaning your rate stays the same over time) does not mean that it is truly set in stone. Basically, a fixed rate means that the credit card company has to give you 15 days notice before raising your rate. Plus, if you pay your bill late, if your credit score lowers for some reason (i.e., paying a bill to another company late) or if you go over your limit, they may also increase your interest rate.

Again, read the fine print on any document sent to you by your credit card company. If you’re a good customer, if your credit score increases (a good thing) or if you have a change in income, you can call and ask to have your rate reduced. The company doesn’t have to do so, but it is an option you can take.

Credit card theft insurance

Making minimum payments

A $20 credit card bill may fit within your budget, but what happens when you have to pay that amount for 10 years … or more? Most credit card companies set the minimum payment at 2 percent of the total debt. If you have $2,000 of debt at an 18 percent interest rate, it will take you 10 years to pay off the entire amount if you only make minimum payments.

Paying over on your card is one of the best ways to pay off your debt. Any extra amount you pay now will save hundreds – and in some cases, thousands – of dollars in the long run.

Charging overseas

There is a good chance that you will be out of the country at some point during your military career. During this time, you may see your credit card as a quick and easy way to buy what you need. Be aware that some credit card companies charge an additional 1 percent currency exchange fee. This may not seem like a lot, but if you are buying a lot of items, those fees can add up quickly.

Minimizing Trouble

Are you in shock when you see your credit card bill every month? Do you feel that you could not have charged that much in a month’s time? The following are a few strategies to use that can help you minimize the troubles many people get into when using credit cards.

Check your bill carefully.

When you receive your bill each month, get in the habit of looking it over to be sure there are no mistakes. If there are any, the sooner you report them to the credit card company the easier it will be to get them resolved. This will also allow you to keep track of any fees, to check the interest rate to see if it’s been raised or lowered, and to know what your available balance is.

Keep track of what you spend.

Deduct the payment before the bill arrives.

If you have a new credit card, or one that does not have a lot of charges, you can use the following strategy to help keep the amount under control:

· Every time you use your card, deduct the amount you charge from the balance of your checkbook as if you made the purchase with a check or debit card.

· Put a star next to the amount with the letters “CC” so you know that money is for your credit card payment.

· When you receive your bill, add up the “CC” entries and use that money to pay the credit card bill.

· When you use this process, you will think twice about every purchase you make.

Getting Out of Trouble

Unfortunately, prevention strategies don’t always work. For a number of reasons – an unexpected expense, poor money management habits, or too many bills and not enough money – you may already have an overwhelming amount of credit card debt. But don’t worry! There are a few strategies that can help you get out from under that mountain of bills.

Focus on one card at a time.

If you have more than one credit card, trying to pay them all off can seem impossible. The key is to focus on the card with the smallest balance first. It won’t get paid overnight, but as you steadily send more money, you will watch the balance get smaller and smaller until, finally, it’s down to zero.

Why should you pay more? It’s relatively simple: When you pay the minimum on a credit card bill, you are usually not doing anything but paying off the interest, rather than the balance or “principal.” Paying extra means you are paying off more on the principal, which in turn lowers the total, which in turn lowers the total amount of interest (not the rate, just the total dollar amount).

The following steps explain how to do it:

1. Pay as much as you possibly can on the card with the smallest balance. Whether it’s twice as much, three times as much, or even an additional $20 a month, sending extra will get the bill paid faster.

3. Apply whatever amount you were paying on the first card and add that amount to the next card on the list. You’ve been using that money for a bill anyway, so why not use it to lower your credit card debt even further? The additional amount will knock out that other account faster.

4. Once your next card is paid off, close that account and cut up the card. 5. Repeat until all of your cards are paid.

This strategy works even if you have just one credit card. If you do, then take the amount you were using to pay off the card and put toward another debt – perhaps a car loan, your mortgage, or even put it into savings.

You may be saying to yourself, “I don’t have enough money to pay extra!” Truth is, you probably do but just don’t realize it. You can save money by cooking for yourself rather than eating out, or by cutting back on your cable or satellite service. There are a number of creative ways to find that additional $20, $40 or even $100 a month you need.

You may also be saying to yourself, “It’ll take me years to do that!” Depending on the amount of debt you have, you may be right. But the amount of time it will take is significantly less than the amount it will take by just paying the minimum balance.

Think about the enormous satisfaction and relief you will feel once that first card is paid off ... now think about how it will feel to have all of your credit cards paid off. Use that as motivation to keep yourself on track, and remember that you can do it!

Get a consolidation loan.

If you just have more credit card debt than you can handle, a debt consolidation loan may be a good option (loans are discussed in depth in the next section). The advantages are:

· The interest rate is usually lower than your credit cards.

· The interest rate is usually fixed.

· There is a fixed amount of time you have to pay it off.

These can be huge advantages. Credit cards have no set time limit and the interest rate can vary. Also, paying off your credit cards can improve your credit rating, since the accounts will be listed as paid in full.

Loans

There are a large number and types of loans available, and it would be impossible to cover them all in a few pages. There are, however, some key things you should know and strategies you can use to minimize getting into too much trouble.

What You Should Know

Watch out for payday loans/quick-cash companies.

These can often seem like a good idea but, in reality, they can put you into a huge financial hole from which it is difficult to recover. The problems with companies such as this are numerous:

· They do not have to list actual interest rates. Consider a $100 loan for 14 days, with a fee that costs $25. The annual percentage rate actually equals 651 percent. This may seem like an excessively high interest rate, but the reality is simply the $25 cost. The problem is that if you do not pay off the full loan amount, you may have to take out another loan, or “roll the debt over,” which means another $25 fee. If this continues to happen every payday you will just keep getting further and further into debt.

· If you pay the loan off in time, they do not report that to any of the three credit bureaus. You should be rewarded for paying your bills, but many payday loan or quick-cash companies fail to do this. They will, however, report you if you fail to pay them.

· The term of their loans (the length of time to pay them back) is incredibly short. What happens if you have an emergency in the two weeks before you have to pay them back? Well, they’ll offer you another loan to pay off the original, and the cycle of debt can quickly spin out of control.

Once again, companies that offer you quick cash, money for the title of your car, or just until your next payday should be approached with extreme caution and, if at all possible, completely avoided.

Find the best deal.

Don’t just take the first loan you can get. Instead, look around and find out who can give you the best rate. Depending on your credit history, age and income, there can be a large difference between your local bank, a credit union or a reputable loan company.

The important thing to remember is to truly get a good deal. If you’ve had credit issues in the past, odds are your interest rate will be higher than those with better credit scores. But if you get a loan at a fair rate and make payments on time, your credit score will increase.

Work with companies that have your best interests in mind.

As a service member, you may often find yourself a target for what is known as “predatory lending.” Companies that fall into the category of predatory lenders only care about getting your money and nothing more. These companies also target service members because they have steady jobs, receive steady paychecks and often need a loan to help with major purchases.

But not all companies that work with the military are bad. There are some things you can look for to make sure the institution you get a loan from has your best interests in mind:

· Financial Education – Knowledge is the key to making good financial decisions, so check to see if the company with which you work wants knowledgeable customers, or just wants your money.

· Conforms to federal regulations – Passed by Congress in 1968, the Truth in Lending Act and Regulation Z (TILA) provides a uniform manner of calculating and presenting the terms of consumer loans. TILA mandates specific disclosures that enable you to compare costs in order to help you make informed credit choices. Make sure the company offers you this disclosure. If not, take your business elsewhere.

sponsor events and have products and services designed for the military. Many independent loan companies (those who are more than just a bank) do the same thing.

These guidelines are not all-inclusive, but are a good place to start when looking for a loan. The last thing you want to do, however, is work with a company that just sees you as a chance to make a profit, rather than caring about your unique financial situation.

Minimizing Trouble

Keep it under control.

Whenever you get a loan, and for whatever reason, you should assess your current financial situation and make sure you can truly afford the payments. If you are getting a consolidation loan, make sure that neither the payments nor the interest rate is higher than the bill you are paying off.

Pay on time.

Just like with any other bill, paying on time is key. Plus, if you establish a good payment history with the company, you can sometimes call and negotiate a lower interest rate. This can save you hundreds – or, in some cases, thousands – of dollars over the life of the loan.

Use allotment if possible.

General strategies for debt reduction

No matter what kind of debt you have, the following are some good, basic tips to help you get it under control.

Attitude Strategies

It’s possible that you should approach your money issues in a different way. The last and most important element of emerging from financial problems is creating a new attitude about money. Do you know why you got in debt? Are you a compulsive shopper who loves to cruise the malls or the car accessories stores? Maybe you can’t stand to see your neighbor have a newer or fancier car, boat or TV than you have.

Whatever the reason, you need to understand how you got in trouble. Chances are you don’t need a professional to do this – just take a cold, hard, honest look at yourself. If you don’t fix the root problem, you’ve only treated the symptoms and will still have financial worries, possibly even causing greater damage in the future.

Fourteen Steps to Financial Freedom:

1. Cancel your unused credit cards and call the lending institution to get a confirmation letter for your records.

2. Cut up your credit cards!

3. Save your money for future purchases instead of using credit.

4. Contact your creditors and ask for a lower rate. Not all will say yes, but some will offer lower interest rates rather than carry a delinquent account that may never be paid.

5. Pick the debt with the highest interest rate and start paying extra amounts. 6. Set up a budget and stick to it! The “little extras” here and there may be

nice, but that’s probably what got you into debt in the first place.

7. If you consolidate, shop around for the best rates. If you own your home, a home equity loan may be the right way to go.

9. Discuss all purchases with individuals who will be affected by the decision. 10. Be patient. You probably didn’t get yourself into this situation overnight,

so you won’t get out of it that quickly, either. 11. Be aware of your spending habits.

12. Keep track of your progress. It may seem very slow at first, especially if the debt load is very large. But it’s a great feeling to whittle away at that list of creditors!

13. Don’t go into debt again! If you get your debt paid off, the last thing you want to do is get yourself into deep debt again.

Bankruptcy – The Last Resort

There may be a time when you are so overwhelmed with debt that none of the above strategies work. In that case, bankruptcy may be the answer. There have been entire books written about the different types, the steps you should take and what exactly happens. Since there is not enough space in this e-book to cover it all, the following is just a general overview of the different types of personal bankruptcy. If you feel that it is your only way out, you will need to contact a bankruptcy lawyer – he or she can give you more information and completely inform you of what you need to do, and what will happen.

NOTE: Filing for bankruptcy is a major decision and should be used only as a last resort.

Chapter 7 Bankruptcy Overview

Chapter 7 bankruptcy refers to the chapter of the federal statutes (the Bankruptcy Code) that contains the bankruptcy law and is sometimes called “straight” bankruptcy. It cancels most of your debts and, in exchange, you may have to surrender some of your property.

To file for bankruptcy, you fill out a two-page petition and several other forms. You then file the petition and forms with the bankruptcy court in your area. The entire Chapter 7 bankruptcy process takes about four to six months, costs around $200 in filing and administrative fees, and commonly requires only one trip to the courthouse.

Filing for bankruptcy puts into effect something called an “automatic stay.” The automatic stay immediately stops your creditors from trying to collect what you owe them so that, at least temporarily, creditors cannot legally garnish your wages, empty your bank account, go after your car, house or other property, or cut off your utility service or welfare benefits.

Until your bankruptcy case ends, your financial problems are in the hands of the bankruptcy court, and none of your property can be sold or paid for without the court’s consent. With a few exceptions, you will have control of property and income you acquire after you file for bankruptcy.

dismiss your case. As a general rule, a court will dismiss a Chapter 7 bankruptcy case as long as the dismissal won’t harm the creditors. Usually, you can file again if you want to, although you may have to wait 180 days. Also, once you go through the entire process, you can’t file for Chapter 7 bankruptcy again for another six years from the date of your filing.

When Chapter 7 Bankruptcy May Not Help You

Filing for Chapter 7 bankruptcy is one way to solve debt problems, but it’s not the only way. In several common situations, bankruptcy is either unwise or legally impossible:

1. You previously received a bankruptcy discharge. 2. A friend or relative cosigned a loan.

3. You could pay your debts over three to five years with proper budgeting. 4. You want to prevent seizure of your wages or property.

5. You just want to stop harassment by creditors. 6. You defrauded your creditors.

7. You attempt to defraud the bankruptcy court.

Chapter 13 Bankruptcy

In a Chapter 13 bankruptcy, instead of having your assets sold to pay creditors (which is what happens in Chapter 7 bankruptcy), you keep your property and use your income to pay all or a portion of the debts over three to five years.

Although Chapter 7 is usually best for most people, if you have a steady income and think you can squeeze out a set amount each month to make payments, Chapter 13 may be a good option. In some situations, Chapter 13 is much preferred to Chapter 7 – it takes less time to pay off your debts and you get to keep most of your assets (such as your house, car, etc.).

Glossary of Financial Terms

Below are some basic financial terms that can give you a better understanding of your finances.

Algorithm: A mathematical model used in credit scoring to compare data in a person’s report and predict his or her likelihood of repaying their debts. The higher the credit score, the better.

Bankruptcy: A legal proceeding designed to help people in severe financial difficulty get a fresh start by relieving them of their current debts. Bankruptcies usually stay on a credit report for 7 to 10 years.

Charge-off: An unpaid portion of a bill that a lender has accepted will

never be paid and has recorded on the books as a bad debt. It is a serious negative item on a credit report.

Collection: A creditor’s attempt to recover a past-due payment by turning the account over to a collection department or company. Having a debt in collection is a serious negative item on a credit report.

Credit bureau: A credit-reporting agency that is a clearinghouse for information on the credit rating of individuals or companies. It is often called a “credit repository” or “consumer reporting agency.” The three largest are Equifax, Experian and TransUnion.

Credit history: A record of a person’s use of credit over time.

Credit limit: The most that can be charged on a credit card or a credit line.

Credit report: A document containing financial information about a person, focusing on his or her history of paying obligations. It includes current balances on outstanding debts, the individual’s amount of available credit, public records such as bankruptcies, and inquiries about credit from various companies.

Debt-to-income ratio: The amount of money a person has in outstanding debt, compared to the amount of income a person has. The higher a person’s debt ratio, the more risky the individual appears to potential lenders. Anything below 40 percent is considered good.

Default: A designation on a credit report that indicates a person has not paid a debt. Accounts usually are listed as being in default after several reports of delinquency. Defaults are very serious and are considered as negatives on a credit report.

Delinquent: A designation on a credit report that means a person hasn’t made the minimum payment on a debt on time. On credit reports, delinquencies are usually shown as being 30, 60, 90 or 120 days delinquent.

Delinquencies are a seriously negative item on a credit report.

Equifax: One of the three major credit-reporting agencies. Their contact information is:

1-800-685-1111

Credit Information Services PO Box 740241

Atlanta, GA 30374 www.equifax.com

Experian: One of the three major credit-reporting agencies. Their contact information is:

1-888-397-3742

National Consumer Assistance Center PO Box 2104

Allen, TX 75013 www.experian.com

FICO score: The most commonly used credit score. The name comes from the Fair Isaac Corporation, which developed the scoring model, and is used to predict the likelihood that a person will pay his or her debts.

Hard inquiry: An item on a person’s credit report that indicates that someone has asked for a copy of the individual’s report. Hard inquiries are requests that result from a person applying for credit, and are included in the formula for determining a person’s credit score.

Judgment: A decision from a judge on a civil action or lawsuit that is usually an amount of money a person is required to pay to satisfy a debt or a penalty.

Lien: A legal claim placed on a person’s property, such as a car or a house, as security for a debt. Example: A contractor may place a lien on a house after they did work and didn’t get paid. The property cannot be sold without paying the lien first.

Public record: Information on your credit report that has been obtained from court records, such as bankruptcies, judgments, and liens, all of which are negative.

Rate shopping: Applying for credit with several lenders to find the best interest rate, usually for a mortgage or a car loan. If done within a short period of time, such as two weeks, it should have little impact on a person’s credit score.

Revolving credit: An account that requires a minimum payment each month plus service charges on the remaining balance, such as a credit card. As the balance declines, so does the service charge.

Soft inquiry: An item on a person’s credit report that indicates that someone has asked for a copy of his or her report. Soft inquiries can be from current creditors reviewing the file, prospective creditors who want to send out an offer such as a pre-approved credit card, or a person’s own review of their file. They are not included in the formula for determining a person’s credit score.

Trade line: An account listed on a credit report. Each separate account is a different trade line.

Trans Union: One of the three major credit-reporting agencies. Their contact information is:

1-800-888-4213

Consumer Disclosure Center PO Box 1000

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