Divorce Your Debt: Five Alternatives

Debt, particularly the kind that comes from credit cards, can leave consumers on a sort of hamster wheel, paying, paying and paying and never getting anywhere. While most people use their cards meaning to pay their debts, bad decisions, a struggling economy or unexpected expenses can derail the best of intentions. Unfortunately, when it comes to debt, it isn’t the thought that counts.

Eventually, most people on that hamster wheel realize the futility and will do just about anything to get off. It is important to understand the alternatives.

DIY debt reduction is a plan in which consumers strive to reduce or eliminate their debt on their own. In its simplest form, a DIY plan must employ two criteria to work. Consumers must stop using credit and they have to pay more than the minimum amount due each month. A DIY plan requires a lot of discipline and belt-tightening but it will work, though it may take years longer than most people think.

Add on a few details to the plan and it can work more quickly. By paying at the beginning of billing cycles, one saves a bit of interest and is never in danger of late fees. Over paying by at least 20% will significantly affect the principal debt. The more money paid early in the process, the sooner it will be over but the most dramatic results may not be visible for quite a while.

Transferring Balances or shifting debt from one credit card to another may provide temporary relief and help jumpstart a DIY plan. Combined with very aggressive payments, that little interest rate break may last long enough to help people get back on track. Unless there is a real DIY plan, however, transferring balances just postpones the inevitable. The introductory interest rates are temporary; sometimes barely lasting six months. One must consider the subsequent interest rate if the debt cannot be paid entirely during the period of the introductory offer.

There are also lots of snares and traps associated with balance transfers. The ways the interest is calculated, the method the creditor uses to classify balances and how payments are applied could end up costing the consumer much more than imagined. Additionally, penalties in the forms of fees or interest rate hikes if the consumer is even a day late with a payment can make the balance transfer a really bad decision.

Debt Consolidation is often the first alternative people think of but is unavailable to most consumers. Consolidation is supplied by a bank and is usually associated with a line of credit or a loan based on home equity. If a consumer does not have assets and equity, there is no loan.

Paying off high-interest rate credit cards with a lower interest rate mortgage makes sense on several levels. The lower interest rate, easier payments and the ability to deduct the interest from taxable income are enticing. However, default on the loan can result in the loss of a consumer’s home instead of mere credit report damage on unpaid, unsecured debt. Lengthening the payback time on the debt may reduce payments but additional months or years of interest really add up. And there is always the potential of running up those now empty card balances again.

Debt Management is when an agency, usually a non-profit company, contacts a consumer’s creditors and requests interest rate and minimum payment reductions which are significant enough to help the consumer effectively pay the debt in a reasonable time frame. These agencies have standing agreements with most creditors and if the consumer is in arrears, the proposals for payment plans are often accepted. The debt management agency will also consolidate payments so that the consumer makes one large payment each month to the agency which is then distributed to the creditors. Fees often apply and a consumer is required to stop using credit entirely. Debt management also maintains the damage to credit reports that first prompted the need for help. Even with generous creditor concessions, it can take years to pay off the debt.

Debt Settlement must be accomplished by experienced negotiators who approach a consumer’s creditors and negotiate a reduced balance. Debt settlement requires considerable knowledge of consumer rights and a clear understanding of the credit card industry. The consumer will pay less on the debt but often has to pay all at once. (Sometimes payment plans can be established but usually this involves additional loans which are secured with assets.) The consumer will also pay a steep fee to the settlement company. Credit report damage remains to the legal limit and all forgiven debt becomes taxable income; so Uncle Sam gets his cut next April.

Bankruptcy comes in a number of forms. Most often consumers are guided to either Chapter 13 or Chapter 7 bankruptcy. Chapter 13 is a court ordered version of debt management and many who file for Chapter 13 eventually re-file for Chapter 7. Chapter 7 is when the court orders that included debt be discharged entirely. The consumer is given a fresh start with a credit report that is severely damaged for ten years.

Filing for Chapter 7 does not automatically guarantee that debts will be discharged. Consumers would be well advised to seek the advice and guidance of a reputable and experienced attorney who specializes in bankruptcy.

Getting advice is often difficult because it seems that everyone who knows enough to give it also has something to sell. With the exception of the DIY plan, attempting to do any of them on one’s own can make matters much worse.

When creditors are alerted to a possibly defaulting debt, they will, of course, act and speak in their own interest. They may revoke credit making the entire balance due immediately. They may reduce credit limits far below the outstanding balance, charging over-the-limit fees until the balance is significantly reduced. They may raise interest rates and increase minimum payments. They may even sell accounts off to collection agencies which will assuredly be much more aggressive than the original creditors and which are more likely to actually take the legal action they threaten.

A common mistake consumers make in choosing one method over the other is they base their decision on emotions more than understanding the practical solution that best fits their situation. They wish to be ethical without understanding the ethics of the credit world. They worry about their credit reports without knowing how credit reports work. They fear not having their credit cards because they do not know how to live without them or within their means.

Education is key to our decision but second best is advice from a certified, and reputable, financial counselor—not a financial adviser who focuses on investments. The National Foundation for Credit Counseling (NFCC) provides a website feature to help locate reputable certified counselors. These counselors all work for debt management agencies under the governance and standards of the NFCC and are a consumer’s best bet for reliable advice.

Joseph Onesta is speaker, trainer and work culture consultant. As former Director of Education for Consumer Credit Counseling Service of Los Angeles, he has helped tens of thousands of consumers along the path to financial wellness through education seminars, workshops and publications. To learn more about his services, visit his website at www.integrityhpi.com.

Money Smart Kids: Ten Things You Should Teach Your Kids About Money

As good parents, we strive to give our children the best opportunities for success. However, when it comes to understanding how money works, many parents are doing a miserable job. National surveys conducted by the Jump$tart Coalition show that the majority of high school seniors fail the test when it comes to even simple money skills. Why?

Some parents undoubtedly feel inadequate to teach their kids about money because they struggle with their own finances. Others may think that money management skills are obvious and easy. Perhaps others simply want to shield their children from concerns about money and other harsh realities of life. Finally, there are perhaps a few others who wish to maintain one of the last vestiges of control they have as their kids careen through their teenage years.

You do not have to be a financial wizard to pass on sound money skills to your kids. If you ask me, you are doing them damage if you do not teach them how to manage their money. So, even if you feel like you need to learn more before attempting to help your kids become money wise, here are some sound principles that will help them stay on the healthy side of their wallets for the rest of their lives. You may find yourself learning along with them.

Money comes from work, not the ATM. Unless you come from a long line of super wealthy people, you probably have to work for the money you get. It does not magically appear out of cash machines. However, for most kids, the experience is the opposite. They have not had to work. All they need to do is ask. Kids really benefit from understanding that Mom or Dad, most likely both, have to work very hard for the money that that the family spends. Someday, they will have to go to work to get their own money. Help them understand that doing well in school will help them get a better paying job.

As kids get older, it is all right to exchange cash for extra work. Offer them opportunities to earn the money they need for the things that they want. It’s not good to pay them to do things that they will have to do for free for the rest of their lives like make their beds or clean up their rooms. It certainly wouldn’t hurt them to wash the car or cut the grass for a little cash.

You can’t have everything you want. We have only a limited amount of money every month. After we use that money to buy something, we have less money to spend on other things. Consequently, the number of ways we can choose to spend the remaining money is reduced. If we use our money to buy candy today, we may not have enough left to go to the movies tomorrow. We should think about and plan how we are going to use our money before we start spending it.

When kids are learning to manage an allowance, tell them how it is to be used. Give them financial responsibility for entertainment, clothes, music, cosmetics whatever they spend money on. Avoid constantly bailing them out of tight money situations if or when they overspend. They might miss a movie or two but they’ll learn how to manage.

Buy the stuff you need before you buy the stuff you that you want. Since we have limited amounts of money, some of the things we buy are more important than others because we need them. When making a plan for spending our money, we make sure we buy the things we need before we start spending money on the things we want. We buy school supplies and clothes before toys and candy. Mom and Dad do this as well. We make sure the rent or mortgage is paid before we start spend money on a vacation.

Some people have more money than other people and consequently, they have more stuff. Perhaps they are paid more for their work or they work more hours than others. There will always be other kids with bigger, better, newer things. Children need to see those differences and learn how to cope with them. Having more stuff does not make one person better than another person. It is all right to have less than someone else. If we have more that others, we should share.

Sharing is fun. If we have stuff that other people do not have, we can share it with them and enjoy it together. Part of the joy of owning something is sharing the experience of using it. Owning a barbeque or big screen television is more fun when we invite family and friends over to share them. Sometimes other people will have things that we do not have and they might like to share them with us.

We save up to get bigger stuff. When we do not have enough money to buy something we want today, we can decide to not spend our money on other things until we have enough to buy it. Being willing to sacrifice other things and save perhaps for a long time, just shows us how much we really want that expensive item. Sometimes, after all the sacrificing and saving, we realize we really did not want the item as much as we thought we did and we do not buy it. This kind of experience helps us be more judicious about purchases in the future.

Help your children make these kinds of choices and follow through with the denial and the reward. If they choose to give up a toy or a treat to help get something bigger later, let them make the sacrifice. You may frequently have to remind your children of the choice but let them make it and stick to your guns.

Borrowing makes things cost more. If, instead of saving, we borrow money to buy bigger stuff sooner, we have to pay more because the person lending the money gets something out of the deal. Banks, credit cards and even parents can charge interest. We may have to work a long time to pay the money back. That money could be spent on other things that we must now do without because of our debt.

Many parents understandably have difficulty charging their children interest but if you allow them to “borrow” against their allowance, you can make this idea stick by allowing them to experience what it is like to do without until their debt is paid.

Generosity has its limits. It is good to be generous with others. However, we may be hurting our family if we spend or give money that we need in order to be generous with someone else. When we really want to be generous and that generosity requires a sacrifice on our part, we should only sacrifice things we want, not things we need.

Charity and helping out the less fortunate is a prevailing cultural norm in America of which we should be rightfully proud. Americans are the first to send help in a disaster. Our children, however, need help keeping generosity in perspective.

It is also important to help them understand that not everyone manages their money as well as we do. While we like to be kind and generous, we cannot make up for the lack of others when it comes to managing money. If our friends spend all their money on ice cream, we shouldn’t take money out of our savings to pay their way into the movies.

Saving is automatic. We save because that is what we do. Saving for the future should be a habit. Ten percent of everything we earn should automatically go into the bank. We do not need to know what we will buy with it. We do not need to know how we will spend it. We just do it because that is what we do with money. The day may come when we really need that cash and when we do, we will recognize it and be glad of our savings.

Advertising is not real. When kids see commercials for new toys or products, they really want the feeling or the fun those items appear to bring to the kids in the commercial. It is good to discuss with your children how much fun they would really have with that item. The kids in the commercial are actors. They are working and being paid to have fun with that product. Would we have as much fun? We buy something because it will meet our needs or we will enjoy it, not because kids in a commercial appeared to have fun or other kids at school have one already.

Even if your children grow up to have seven figure incomes, money skills will be the key to their financial security, success and even their self-esteem. No matter how much they earn, they will have learned skills that will help them be happy and get the things that they want.

Financial Lessons Learned from Hurricane Katrina

The financial world is in chaos. World leaders are scrambling to save economies that up to now, seemed to need little more than interest rate regulation. Government bailouts, take over of major financial institutions and decimation of retirement accounts have set our society in turmoil from the highest in government to individual citizens. We are in the midst of a kind of economic hurricane Katrina and we need to know how to best weather the storm.

As Katrina approached the gulf coast, people in New Orleans were encouraged to evacuate but many ignored the warnings and stayed behind. They later found themselves stranded on their rooftops having lost everything. If, like them, you do nothing, in this financial storm, you may find yourself stranded or worse. The warning signs are all around us. It is not time to hunker down and hope that the storm blows over. It is time to take action.

Reconsider what you have, what can be saved and what you might have to count as a loss.

In personal finance terms, it comes down to revaluating your wants and your needs. Luxuries that become a habit have a way of looking like necessities when they are not. We all should examine the ways we spend money and reconsider our habits. How much of our spending is on luxury and how much is on necessity?

If we do not tighten our belts voluntarily, they will be tightened for us. In the throws of Katrina, stranded people were hungry and parched and help did not come for a long time—too late for some.

For some of us tightening the belt a notch may mean public transportation rather than driving to work. It may mean packing a lunch rather than eating out. We might dry-clean less often. We might eat at home more, turn the lights off when we leave a room or wear a sweater rather than turning up the thermostat this winter.

Do we really need to spend four or five dollars on a cup of coffee? Sorry Starbucks, I own a travel mug and can brew a decent cup at home. If I am going to go out for a cup, it will be the basic model, not the frothed-up, price-inflated version. How about cutting your prices for your loyal customers who have spent so freely?

Do not wait for the government to save you. They are not prepared for it. Our government and FEMA were taken completely by surprise by Katrina and the process was mismanaged and mistakes made from the very beginning.

Remember the economic stimulus check you received at the beginning of the summer. It was like throwing a pizza at 30 or 40 really hungry people. The big story at the time was how very few people were actually spending it in the way the government hoped. Now we are bailing out banks to tune of billions of dollars because of their bad, even predatory lending decisions.

Looters are on the loose. As citizens of New Orleans were forced to turn their backs on their homes and businesses to save their lives, looters were right behind them picking up was they left behind.

Beware of unscrupulous offers of credit, pay-day loans, easy financing and guaranteed satisfaction. Think twice before moving your investments on the advice of someone who needs to make a living off of your decisions. Read the fine print of offers on insurance that will make your payments for you if you are unable to do so. Anyone who offers an easy solution in a time like this is selling snake oil.

Just after the storm, creditors were very patient and cooperative with credit card holders and were very understanding about late payments and lost cards. How long do you suppose creditors left accounts open for displaced Katrina victims who were no longer employed and could not pay their bills? It wasn’t long before accounts were being closed for various reasons, all of them legitimate.

Learn to live without your credit cards. Using credit now just means you will have to pay more later. Interest rates often double or even triple the cost of your purchases if you are carrying balances from month to month and making minimum payments. In a tight economy, why would you pay more for something just to have the simple convenience of using a credit card?

Most everyone has debt obligations and when it comes to prioritizing which creditor gets paid and which does not, credit cards fall to the very bottom of the list because the debt is unsecured. At the top of the list are your mortgage, legal obligations like child support and your taxes. Think of long-term consequences rather than short-term inconveniences.

There is going to be a very fowl mess to clean up. More than three years later, there are still homes in New Orleans that have not been cleaned out, gutted or torn-down and the job of cleaning up that mess gets more and more difficult as time goes by.

Financial storms can cast very long shadows. Lost opportunities, damaged credit reports and investment losses may require years of recovery and rebuilding. The thing to remember is that you can rebuild and though things may never be as they were or as you planned them, you can and will survive and even find happiness. In the midst of the storm the best we can do is to try and limit the damage.

Profiteering will be rife. In the recovery process after Katrina, gross profiteering was not only everywhere, it was obvious. Even today, building supplies are at a premium price even at the national chain stores. Contractors in New Orleans can charge two and three times their normal rates. Long waits in line and even longer waiting lists for contractors betray how willing some are to pay the price of recovery.

As we emerge from this crisis, and we will come out of this, there will be some who promise quicker and easier recovery. Call them economic ambulance chasers. They will promise investments with large and quick gains. They will offer to repair credit reports, provide quick easy access to bankruptcy and offer easy credit terms. If it sounds too good to be true, it is.

Remember the fundamental rules. Promises of high returns naturally carry corresponding risk. The more an investment opportunity promises a return, the more likely it is that you can also lose your shirt. There are no secrets to credit repair. You can do it all yourself and the information you need is free and readily available. And anytime there is a legal way out, like bankruptcy, debt negotiation or tax settlement, there are consequences that are unavoidable. You should find out what they are before you sign on the dotted line.

There will be help. Volunteers and charities poured into New Orleans after Katrina as if a levy of a different kind had been breached.

It is difficult to say what kinds of real help will be available after this economic storm. They are limited only by our ingenuity and our capacity for kindness. Ultimately, however, each of us is responsible for our own financial well-being. Be careful; it is a gale out there.

Joseph Onesta is a Speaker, Trainer and Consultant with Integrity HPI. His practice focuses improved work environments that develop an "employer of choice" reputation for his clients while facilitating the work-life balance of their employees. As former Director of Education and Training for Consumer Credit Counseling Service of Los Angeles, he offers seminars and workshops in Personal Finance Employee Education.