Category Archives: Debt

Building or repairing credit to buy a house or car

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Yesterday’s emailer, C.E., wanted to know how to rebuild/repair credit in order to afford a house. I loved his original email. He was trying to formulate a plan to help get his family into a better situation. He had admitted a history of poor financial decision-making. He was contrite. He was honest. He was ready to learn. Today we will wrap up my answer to him.

As you read yesterday, C.E. had some technical and philosophical questions that he had to deal with. His goal was to buy a house in April 2013. My contention was that he shouldn’t buy a house in 2013. Am I holding him back from achieving a dream? Yes. If my dream were to fist fight a polar bear, would you stop me? I hope so. I believe that if C.E. were to buy the house in April of 2013, he would be in real financial trouble within five years. His financial situation is not solid. You can buy a house, lease a car, go to college, and several other things on a shaky financial base, but that doesn’t mean you should. Instead, C.E. should strengthen his base, and revisit the home ownership conversation a few years later.

He also asked how he should go about repairing his credit. That’s a great question. Unfortunately, there is a tremendous amount of bad advice out there on this topic.

Here are the best tips for repairing credit.

  • Get current- If you are behind on your bills, then make sure that you make payments on time. Believe it or not, paying your bills on time really helps your credit score.
  • Address your collections- If your debts have gone to a collection agency, then your credit will get beat up until you address the problem. The quickest way to fix your credit? Payoff your collection debt. Make sure that the collection agency provides you a promise to clear your debt from your credit report in writing.
  • Time- Time heals credit damage. But this is the last thing people want to hear. If you have a bankruptcy or some other bad credit moment, it will eventually exit your credit report. But most people want it to go away faster than it will.

Short list, huh? There are more ways to improve your credit, but I think they are really bad ideas. Do you remember the Atkins diet? It was the diet that had you eat primarily fatty foods and protein, all the while avoiding carbs. It worked. Kinda. Somewhere between my 2nd and 3rd pound of bacon my fourth week in, I decided that the diet just didn’t make any sense. Many Americans came to the same conclusion, and the diet died a slow fatty death. Many of the credit repair and credit building techniques that you commonly read about are very similar to the Atkins diet. In other words, you are cheating the system for a temporary result that won’t last.

Your credit score is a measure of how good you are at borrowing money. If you have proven over a period of time that you suck at it, then take a break. Just get out of the game for a little while. I SUCK at golf. I have taken a break. I will take it back up someday when I have the patience. People that are told that they “can’t” borrow, get in such a hurry to borrow again. And those that can borrow freely, don’t really care that much about borrowing. It’s like The Gift of the Magi….kinda.

There are going to be people who read this that say “Peter, you are being unrealistic.” In fact, that was a major kerfuffle that I found myself in yesterday. If you know what I’m talking about, I’m sorry it happened. We’re better than that. To the people that are reading this and saying “Peter, you are being unrealistic,” I promise you that I’m not. If you aren’t pleased with your current debt/housing/money reality, then change your reality. If you have made poor decisions and find yourself in a pinch, then it’s going to require different thinking to get yourself out of the bind you’re in. Get angry. Don’t angry with me. Get angry and change.

To me, you shouldn’t even consider buying a house until you are out of the Survivin’ stage of the Four Stages of Your Financial Life. By God, you are SURVIVING. This means you are struggling. Firm up your foothold, collect yourself, and then put together a plan.

 

Why you need to avoid student loans

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How to Avoid Student Loans: wishtv.com

This video caused quite the ruckus today. It inspired an angry email. My point is very very simple: avoid student loans. Get your education, but avoid student loans. I give a few examples of how to do this within the above video. There are many defenders of the importance of an education. I am stepping up to defend your financial future, in relation to your education. Learn what I’m saying, and then decrease the cost of your education. There really isn’t anything to disagree with. Read the book and decide for yourself.

Repairing financial wounds at Thanksgiving dinner

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Yesterday we spent quite a bit of time discussing what’s wrong with Thanksgiving/Black Friday. Let’s get past that. Like I mentioned in that post, if you aren’t part of the solution, then you are part of the problem. My rant is over. Let’s get better.

Thanksgiving = family. And if any of your familial relationships are damaged for financial reasons, then this Thursday the healing begins. You are no longer allowed to bury your head in the sand. Especially once you’ve read this post which will pick the scab off the wound…just prior to us starting the healing process. (Okay, that was a little gross. I’m a bit squeamish. I wish I hadn’t written that, but alas I’m too lazy to delete it. I’d rather just explain it away with a digression.)

Family financial wounds are damaging for several reasons. By righting the wrong, you will begin to heal all the different types of damage that the wrong caused. For example, let’s say that you’ve borrow $500 from your favorite Uncle Rick. As you know, Rick has a mustache. Pete the Planner Bonus Fact: 90% of people named Rick have mustaches. This debt has existed for a while. And you haven’t made any real effort to pay him back. What sort of damage has this unaddressed debt caused?

  1. Non-transparent communication- It was your deep connection with Rick that allowed him to really understand your financial conundrum. It’s this same deep connection that has you clammed up as you ignore your debt to him. Things just aren’t the same. You can’t even share your career success stories with him. “If things are so good, why isn’t he/she paying me back,” he might wonder. And if things are so good, why in the hell aren’t you paying him back, I wonder.
  2. Rick lost his pension- But why would you know? It’s something that we doesn’t really share with anyone. While $500 used to not be that big of deal fro Uncle Rick, it is now. He’s secretly getting pissed about it. Oh, and he hates your new car because of this. He doesn’t care that it’s a lease.
  3. Any financial progress that you are seeing is false financial progress- Things are finally starting to turn around for you…or so you think. People conveniently forget to tell me about personal loans that they took from their family and friends. That’s why I always ask about them. Just because there isn’t a loan document, doesn’t mean that the debt doesn’t exist. Not to get all cosmic-Oprah on you here, but I don’t think you can consider yourself financially viable until you fully acknowledge that debt. And I mean really acknowledge it. Like talk about it – acknowledge it. And if your Uncle Rick has conceded in any way, shape, or form by now calling the loan “a gift”, then you REALLY need to get to work. I don’t really care if he has absolved you of your obligation to pay him. In my book, you will always owe him the money. If he has called it a gift a couple of years ago, but now he is hurting financially, then he is unlikely to tell you. Do the right thing.

Crap, now what? The good news is that it isn’t too late. And what’s better is that I’m going to now tell you the EXACT right way to fix it. Stepping up and doing the right thing in this uncomfortable situation will be the first step towards your financial rebirth. Hyperbole? Nope. It’s true. Taking ownership of your decisions is such an important step in your financial development. Good decisions are generally made by confident people. You will generally lack confidence if you are embarrassed by your financial behavior. There isn’t anything much more embarrassing than shafting your Uncle Rick out of the money you owe him. See what I’m sayin’?

Here’s the plan. You are going to bridge the gap. What? You’re concerned that you don’t have enough money to pay Slick Rick back? Don’t worry about that. Follow these steps:

  1. Be subtle- Sorry, but you don’t get to take credit for this. You don’t get to tell anyone other than your significant other or your Uncle Rick what you are doing. This isn’t one of those things that you announce right before the family prayer This is not a broadway production of your one man show “The Guy That Finally Paid His Debt.” Just settle the hell down, and focus on the execution of this thing.
  2. Get a card- Delivering a soliloquy that will change your financial life can be a little nerve wracking. Therefore, avoid the possibility of doing this wrong. Write it down. Is this the Nancy-ass way out of it? Nope. This is way too important for you to risk saying the wrong thing. You are going to write a simple note.
  3. Write a check for a nominal amount- This is an act of goodwill. This isn’t repaying the national debt. Write a check to Rick for $25-$50. Slip the check into the card. You are going to write this same check every single month until you pay back Rick. I don’t know why people feel like they can only repay family debts with one giant check, but that is a ridiculous notion. You don’t pay your bank back for your mortgage loan in one big chunk do you? Of course not.
  4. Write the following message- Uncle Rick, Enclosed you will find a check for $__. It is my first payment towards the $____ I owe you. My financial struggles should not extend to those that I love. Thank you so much for believing in my ability to repay my debts. Your confidence in me means the world to me. I won’t let you down. Happy Thanksgiving.
If you choose to go through this process on Thursday, then you need to let me know. I will send you a free book. I’m very proud of you in advance. Several of my clients have done this, and it was the beginning of their financial brilliance. Congrats on your willingness to take control of your financial life once again.

Pete the Planner’s guide to college planning

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Saving for college has become increasingly difficult for American families. There are two primary reasons for this: 1) decreasing financial sensibility 2) college price inflation. While this blog is always dedicated to helping you overcome financial sensibility deficiency, today’s post is dedicated to helping you deal with skyrocketing college price inflation. Cool?

I very much enjoy the “college is too expensive: conversation. I’m dedicating two hours of my radio show to this very topic this coming Friday. I’ll post the podcast of the show here early next week. College education has become increasingly inefficient. Whereas technology is leveraged in many industries to decrease consumer costs, colleges (for the most part) have refused to pass on the saving to consumers. Not only that, but colleges have been able to take advantage of student loan subsidization and push college costs even higher. Check out this chart from FinAid.org. If shows college inflation compared to general inflation. College inflation is almost double general inflation. That’s not cool.

Year College Inflation General Inflation Rate Ratio
1958-1996 7.24% 4.49% 1.61
1977-1986 9.85% 6.72% 1.47
1987-1996 6.68% 3.67% 1.82
1958-2001 6.98% 4.30% 1.62
1979-2001 7.37% 3.96% 1.86
1992-2001 4.77% 2.37% 2.01
1985-2001 6.39% 3.18% 2.01
1958-2005 6.89% 4.15% 1.66
1989-2005 5.94% 2.99% 1.99

What does this mean? It means since the US Government is guaranteeing student loans, that more students can borrow. Which in turn means that demand for a college education is high. And competition to attract and retain students is even higher. This leads to some pretty nutty stuff. Why does your college have a climbing wall? Why does your alma mater have dorms nicer than most three star hotels? All of these amenities cost money. And you are paying for it. Well, your student loans are paying for it.

Am I against sending your child to college? Absolutely not. However, I am against cost inefficiency. I encourage you to seek out institutions that honor their commitment to their students’ financial futures. For instance, Grace College has a four year degree that you can earn in just three years. This reduces student tuition costs by 25%. That makes sense to me. You?

So what should you do? It’s pretty simple: plan. I guess if I was Bob the Builder I would tell you to build. But since I’m Pete the Planner, the answer is to plan. The easiest way to fund college is to fund this goal over time. If you start saving right away, then time becomes your friend. If you wait until your kid is old enough to spell college, then time is your enemy. Here’s what I mean:

$200 saved per month for 18 years (started the month your child is born) at a hypothetical 8% rate of return will give you $97,071.03 by the time college rolls around.

$200 saved per month for 12 years (started on your child’s 6th birthday) at a hypothetical 8% rate of return will give you $49,188.71 by the time college rolls around.

Waiting just 6 years cuts your college savings IN HALF!!! That’s not good, but it’s math. So don’t fight math. Use math.

Where should you put your money?

There are several ways to save for college, but choosing the right one can mean the difference between needing student loans and avoiding student loans. Your method for savings should allow you to defer taxes. This means that you don’t have to pay taxes on your investment growth. Your Roth IRA works the same way. It grows tax deferred. The most popular college savings vehicle is the 529 plan. This plan allows you to invest your money into a tax deferred education fund. The money can then be used for college expenses. But here is what makes them VERY attractive in my opinion: many states will give you a tax credit for investing in one. That basically means that you will get a tax refund for a portion of your deposit. For instance, in Indiana by depositing money into the College Choice plan, you are eligible for a 20% tax credit on your deposits up to $5,000. This means that if you deposit $5,000, then you will receive a $1000 tax credit. That means that you will possibly get a $1000 check from the state (some restrictions apply). Therefore, a $5,000 deposit can become a $6,000 deposit, if you deposit the $1,000 tax credit back into the plan.

Let’s see how that would affect our original calculations:

$240 saved per month (original $200 plus 20% from tax credit) for 18 years (started the month your child is born) at a hypothetical 8% rate of return will give you $116,485.24 by the time college rolls around.

$240 saved per month (original $200 plus 20% from tax credit) for 12 years (started on your child’s 6th birthday) at a hypothetical 8% rate of return will give you $59,026.45 by the time college rolls around.

That’s a huge increase!! And all you had to do was save into the right college savings vehicle. Be sure to check on the rules in the state in which you live. Here’s a list of the different state tax rules (provided by FinAid.org).

State 529 Deduction
Alabama $5,000 per parent ($10,000 joint)
Alaska No state income tax
Arizona $750 single or head of household/$1,500 joint (any state plan)
Arkansas $5,000 per parent ($10,000 joint)
California –
Colorado Full amount of contribution
Connecticut $5,000 per parent ($10,000 joint), 5 year carryforward on excess contributions
Delaware –
Florida No state income tax
Georgia $2,000 per beneficiary
Hawaii –
Idaho $4,000 single/$8,000 joint
Illinois $10,000 single/$20,000 joint per beneficiary (25% tax credit for employers for matching contributions up to $500 per employee)
Indiana 20% tax credit on contributions up to $5,000 ($1,000 maximum credit)
Iowa $2,811 single/$5,622 joint per account
Kansas $3,000 single/$6,000 joint per beneficiary (any state plan), above the line exclusion from income
Kentucky –
Louisiana $2,400 single/$4,800 joint per beneficiary, above the line exclusion from income, unlimited carryforward of unused deduction into subsequent years
Maine $250 per beneficiary starting 2007 (any state plan), above the line exclusion from income, phaseout at $100,000 single/$200,000 joint
Maryland $2,500 per account per beneficiary, 10 year carryforward
Massachusetts –
Michigan $5,000 single/$10,000 joint, above the line exclusion from income
Minnesota –
Mississippi $10,000 single/$20,000 joint, above the line exclusion from income
Missouri $8,000 single/$16,000 joint, above the line exclusion from income
Montana $3,000 single/$6,000 joint, above the line exclusion from income
Nebraska $5,000 per tax return ($2,500 if filing separate), above the line exclusion from income
Nevada No state income tax
New Hampshire –
New Jersey –
New Mexico Full amount of contribution, above the line exclusion from income
New York $5,000 single/$10,000 joint, above the line exclusion from income
North Carolina $2,500 single/$5,000 joint, above the line exclusion from income
North Dakota $5,000 single/$10,000 joint
Ohio $2,000 per beneficiary per contributor or married couple, above the line exclusion from income, unlimited carryforward of excess contributions
Oklahoma $10,000 single/$20,000 joint per beneficiary, above the line exclusion from income, five-year carryforward of excess contributions
Oregon $2,090 single/$4,180 joint (i.e., $2,090 per contributor) per year, above the line exclusion from income, four-year carryforward of excess contributions
Pennsylvania $13,000 per contributor per beneficiary (any state plan)
Rhode Island $500 single/$1,000 joint, above the line exclusion from income, unlimited carryforward of excess contributions
South Carolina Full amount of contribution, above the line exclusion from income
South Dakota No state income tax
Tennessee –
Texas No state income tax
Utah 5% tax credit on contributions of up to $1,740 single/$3,480 joint per beneficiary (credit of $87 single/$174 joint)
Vermont 10% tax credit on up to $2,500 in contributions per beneficiary (up to $250 tax credit per taxpayer per beneficiary)
Virginia $4,000 per account per year (no limit age 70 and older), above the line exclusion from income, unlimited carryforward of excess contributions
Washington, DC $4,000 single/$8,000 joint, above the line exclusion from income
Washington No state income tax
West Virginia Full amount of contribution up to extent of income, above the line exclusion from income, five-year carryforward of excess contributions
Wisconsin $3,000 per dependent beneficiary, self or grandchild, above the line exclusion from income
Wyoming No state income tax

Some parents don’t want to pay for the cost of college. I don’t have a problem with that at all. You can always finance a college education, but you can’t finance retirement. I would just encourage you to make a decision rather than having your lack of action make your decision. I honestly think that college costs will become more efficient. I think there will be a giant student loan default crisis in the next 5 years, and this will help reset college costs. People will think twice about borrowing tons of money that they have no means of paying back. This will bring down demand, thus bringing down colleges prices. It will be exactly like what happened to the housing market in the last 4 years.

Remember, start early. It will make it much easier on you. BONUS TIP: As your child progresses through different stages of life, take advantage of expenses left behind. What does this mean? This means that when you stop spending money on diapers, increase your college contributions by the exact amount you spent on diapers. When you stop paying for daycare, make deposits into your college plan for the amount you spent on daycare. This is the absolute best way to supercharge your colleges savings plan. Good luck!! And don’t forget to listen to my podcast on this topic next week. I will post it for you.

*****Check with your investment advisor on the investment risks involved with college savings plan. Many of them are variable in nature, which means risk.******

5 signs that you bought too much house…and what to do next

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One of the most common financial problems facing Americans today is “owning too much home.” And by owning, I mean in the process of owning. In other words, securing a mortgage for a house in which you can’t afford to live. This is a very serious problem. If this happens to be your problem, then you need to address it ASAP.

What sort of problems can “too much house” cause?

Well, lots. High utility costs, high maintenance costs, and high stress levels to name a few. But low housing liquidity and high foreclosure risks are what would keep me up at night. Housing liquidity is used to describe how easy it would be for you to quickly sell your home at an “acceptable” price. The lower the liquidity, the harder it would be to get rid of your house in an “emergency” situation (job transfer, budget contraints, etc). Unfortunately as you will see below, some of the same signs that illuminate the fact that you can’t afford your house, also prevent you from selling your house in a prompt manner.

Foreclosure risk is real for those that can’t afford the home in which they live.

  1. You have no equity- How much of your house do you own? Your answer will determine whether or not you are in a “healthy” housing situation. Equity, of course, is the amount of ownership that you have in something (in this instance, your home). Do you have less than 5% ownership of your home? If so, then you are in too much home. What? The market fell and ate up your ownership? Yes, that stinks, but you still are in too much home. Low equity = home selling difficulty. Remember our brief discussion about housing liquidity? Home equity can prevent you from having housing liquidity issues. Low equity isn’t the end of the world, but fire is falling from the sky if you have low equity combined with one or two of the following signs.
  2. Your payment is 40% of your monthly income- According to Personal Finance Expert Peter Dunn, the maximum amount of your monthly income that should be dedicated to your mortgage payment is 25%. It is quite possible that if your mortgage payment ranges up to 30-35% of your income, you will still be alright. But if 40% of your household income goes to pay your mortgage, then you could be in really big trouble. This isn’t always the case, but it is often the case. The more you spend on housing, then less you can spend on…everything else! This means that you most likely can’t save money, can’t pay off debt, and can’t go on vacation. It is quite common for people that have a major debt issue to mistake a too much house problem for a debt problem. Having a high housing cost percentage leaves you very little room for error.
  3. You can’t afford to keep up with yard and house maintenance- Haven’t mulched in 2 years? Can’t afford to paint your house? That’s a sign that you can’t afford the house in which you live. If you have to go into debt in order to perform the most basic of home maintenance, then you can’t afford your home. The worst part is that neglecting upkeep will only make your too much house problem worse. Your property value will suffer from your lack of attention. This increases housing liquidity concerns.
  4. You have unfurnished rooms- What’s the point of having a room that you don’t use? Sure, guest bed rooms and other such rooms occasionally aren’t used. I’m not suggesting that you buy furniture that you can’t afford, it’s just that you might be in over your head. There is a ritzy section of the city in which I live that is famous for having gigantic homes with no furniture. You don’t have to have a perfectly decorated home, but there is something incredibly odd about buying a $750,000 and then not having enough cash flow to furnish the damn thing. Right?
  5. You struggle to afford property tax increases- I believe that it was Henry David Thoreau who once said, “no, I’m not going to pay property taxes.” Okay, he may not have said that…actually he probably did…but anyway. Sorry Hank, no one likes paying property taxes. No one. Property taxes will consistently increase either through increased tax rates or increased property values. Not being able to afford this increase is a major sign that you are in trouble.

If you are “guilty” of at least 3 of these problems, then you have a serious problem. Not being able to afford your current home should not be taken lightly. That stress you are feeling…yeah, it’s real. This problem will not solve itself. But acting in haste will only worsen your problem. I do think that you need to get some professionals involved. You should contact a licensed and trusted realtor to give you an estimate of what your home is worth. You need information. Whether you sell your home or not, you need to know where you stand. The solution very well may be that you should sell your home. This is a terribly tough decision, but it could save the rest of your financial life.

So you aren’t going to sell you home, now what? You MUST turn to your budget. Don’t know how much you should spend on stuff? Then use this ideal budget. If you can’t afford your house, then you are likely committing too much of your household income to your mortgage payment. This means that you either need to make more money or spend less money. Spoiler alert for the rest of your financial life: those are always the two options. In some cases you might want to consider getting an additional job. This should help you temporarily raise your income so that you can take another more permanent course of action (such as selling your house).

If you do sell your house, then you are unlikely to have a ton of equity for a downpayment on another house. Take this as a sign from God. Don’t buy another house. Rent. Renting is not second place. Renting is one of the smartest financial decisions that you can make. The crazy thing is that you can probably rent a house in the same neighborhood in which you currently live…for less than what you are currently paying for your mortgage.

I can’t emphasize my final point enough: time will not solve this problem. Only three things solve the too much house problem: spending less money, making more money, or selling your house. And in most instances, you need to do all three. Don’t be embarrassed. Be empowered. You are about to take control of your out-of-control financial life. And don’t forget, I’m here to help.

Why I’m against using a credit card for points and cash back offers

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I have to warn you. My snark meter is high right now. There are several reasons for this. The topic of the day, being one of them. Of all the groups of people that I encounter, the “charge-everything-and-pay-it-0ff-at-the-end-of-the-month-in-order-to-get-credit-card-rewards-and-cash-back-offers” group is far and away the most overconfident. And what the last 13 years has taught me is that overconfidence leads to financial mistakes.

I encounter at least 10 people per week via email, Twitter, or Facebook that want to argue the charge-everything-and-pay-it-off-at-the-end-of-the-month method with me. They tell me about all the rewards they get, they tell me how they pay for Christmas gifts with the rewards points they receive, and they go into great detail about how committed they are to paying off their entire balance at the end of each month. But what they don’t realize is that their logic has failed them. The discipline that’s required to pay off a card at the end of every month, opens them open to a lack of financial accountability throughout the month. Their commitment to pay off their debt at the end of each month, no matter how much it is, is exactly what gets them in trouble. Here are the reasons why:

  1. You rarely check your credit card balance mid month- People that do most of their spending with their checking accounts generally check their account balances at least twice (most likely 10 times) per month. While monitoring your checking account balance isn’t exactly the perfect way to watch your spending, it’s a helluva lot better than never checking your balance. Especially if you are trying to live lean and cut spending. People who charge everything and then worry about it later (the end of the month), don’t really care how much they spent mid month because they aren’t in danger of insufficient funds. The charge-everything-and-pay-it-0ff-at-the-end-of-the-month-people never approach their credit card limit during the course of the month. This means that spending habits gone awry, will not be addressed until the behavior has passed. This isn’t good. Your spending habits should be studied. How do you study them? By monitoring your spending. Have you ever had one of those weeks where stress, a sense of abundance, or the commerce fairy have caused you to spend money like it was going out of style? Join the club. Everyone has. But when you charge-everything-and-pay-it-0ff-at-the-end-of-the-month, you tend to ignore this problem until the bill cycle is over. No one ever goes on a three day spending bender, and then checks their credit card balance mid billing cycle.
  2. Your spending is much less consistent- Scarcity is one of the best financial tools on the planet. I personally use it all the time to accomplish very important personal financial goals. However when you exclusively use your credit card to buy things, then you kick scarcity out of the equation. What’s your credit card limit? $15,000 or so? That’s about typical for someone that uses the charge-everything-and-pay-it-off-at-the-end-of-the-month method. For the sake of conversation, let’s say that you put $4000 per month on your credit card. Since you plan on paying your credit card bill off at the end of them month, then you have at least $4000 in your account. Right? And what is even more likely is that you have approximately $10,000 in your checking account prior to paying your mortgage and credit card bill. How do I know this? Because about 40% of your spending is discretionary spending. You know, the type of spending that you put on your credit card. My point? Between your swollen checking account and your $15,000 credit limit, you have “access” to $25,000 per month. This is a drain on anyone’s self control. You can afford ANYTHING that you want. It is my experience both as an individual consumer and as an expert, that this is a very very bad thing. Right now you might be thinking “no way, Pete. I’ve never even considered that I have access to $25,000″. Yes you have. Your brain has. Let’s say that you go to your grandma’s house for Thanksgiving dinner, and she has a bowl of M&Ms out for everyone to enjoy. In the first scenario, she has one four ounce bag of M&Ms in a small dish for your entire family to pick at through the course of the day. How do most people address this situation? They simply pick up just a few M&Ms with their finger tips. In the second scenario, grandma went to Costco. She has an entire three gallon punch bowl filled with M&Ms. How do most people deal with this scenario? They jam their fist so far into the bowl that it looks like they are trying to rehab a shoulder injury. The large punch bowl filled with M&Ms will result in more consumption EVERY SINGLE TIME. Yet your hunger never changed. NOTHING changed except your snap judgement on the resources that were made available to you. Scarcity will help you accomplish financial goals much more than abundance will. By the way, don’t try to impress me with you giant credit limit. I’d be much more impressed if you didn’t have a credit card at all.
  3. You think you’re beating the system- Much like the guy that has a “system” for winning consistently at roulette, charge-everything-and-pay-it-off-at-the-end-of-the-month people tend to think that they are smarter than the house. The house ALWAYS wins. Do you really think these multi-billion dollar companies with their marketing and consumer behavior research departments are really giving you free stuff? Oh, come on. They are counting on you overspending, or better yet, they are waiting for your commitment to pay off your balance every month to fade. When it fades, then the interest clock starts. And don’t think the credit card companies don’t make money off of you if you pay off your balance. They have other revenue streams attached to your purchases such as swipe fees.

Failed logic #1: I get 1% cash back on purchases, how is that bad?

Many credit card companies now offer you cash back on your purchases. This means that you receive somewhere between 1-3% of what you charge on the card, in the form of a bill credit or check from the credit card company. This much less exciting than it seems. How much money do you spend each month on your credit card? $2500? $3500? Let’s say that you put $2500 per month on your credit card. What is 1% of $2500? $25. Wow, that’s amazing. You received 25 whole American dollars for risking so much more. What are the chances that you overspend by over 1% each month on your credit card? I would say that chances are about 100%. As we discussed earlier, access to copious amounts of money is a bad thing when it comes to controlling spending. I believe people that employ the charge-everything-and-pay-it-off-at-the-end-of-the-month method overspend by at least 10% per month. This means that your 1% or even 3% cash back sucks. It sucks really bad. You are actually negative between 7-9% per month. You’d be better off not using a credit card and mailing 5% of your money to Bea Arthur (R.I.P.).

Failed logic #2: I make enough money and spend enough money to make the rewards worth it.

Okay Patrick Ewing, great job. Once again, high income doesn’t necessarily mean that you are a financial genius. It just means that you make a lot of money. So you have immediately said to yourself “I spend much more that $2500 on my credit card. I spend closer to $10,000 per month on my card”. The percentages didn’t change. Your cash back “reward” would be $100 per month, and your likely amount of financial waste would be $1,000 per month. You can’t spend your way out of trouble.

Please feel free to argue any of these points in the comment section. Let’s learn from each other.

So you have a financial emergency, now what?

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Don't borrow money from family

It’s quite possible (read: likely) that you will have a financial emergency well before you have your emergency reserves in place. So what should you do? How should you come up with money…when you don’t have any money? It’s actually a pretty simple solution: sell a lung. I hear they can fetch a handsome price on the open market.  If you don’t feel like violating federal organ harvesting laws, then keep reading. I have a different plan for you.

It takes time to accumulate an emergency fund. A fully funded fund (yeah, you heard me) should consist of three months worth of your necessary expenses (obviously excludes things like dining out, massages, lawncare, house cleaning, etc). Most people that I encounter don’t make this fund a priority. This is a mistake. I have used my emergency fund no less than 10 times in the last 3 years. After every usage, I then turned my focus on replenishing this financial tool. So before we get to “how to navigate a problem with no money”, make sure that you understand that an emergency fund has saved me from flailing into financial ruin several times. It can do the same for you.

Let’s examine the two most common financial backup plans for those that don’t have an emergency fund: 1) credit cards and 2) parents/family. I find that those who fail financially, fail because they rely on one of these two types of backup plans. Those that thrive, or will thrive have COMPLETELY ELIMINATED these two backup plans as a possibility. I would NEVER consider putting money on a credit card, and I would NEVER ask my family for money. Unfortunately, these are the primary backup plans for most people under the age of 35. The only GOOD backup plan is: money. Real money.

Let’s now explore how to handle an emergency with a credit card. I refuse to discuss how to handle an emergency by borrowing money from family. I think it is a terrible idea. Me telling you how to borrow money from family would be the equivalent of telling a teenager how to make a Works Bomb. Once you know how to do it. you’ll do it.

Credit cards

One of the biggest challenges of using a credit cards as a backup plan is “accidentally” using the card for non-emergencies. Being able to identify a real financial emergency that warrants the use of a credit card is vital. Let’s examine a real life situation, and then show you how to handle the emergency using a credit card. This plan should ONLY BE USED if you haven’t yet accumulated your emergency fund yet. As soon as you accumulate your emergency fund, then don’t ever do what I’m about to prescribe. Deal? It’s like my college Tai Chi professor, Yi Lin, once told me. “In an emergency, you can drink your urine once.” I don’t know why he told me this, but he did. I will never forget him for this. He is my greatest mentor to date.

Scenario: You are “out of town” and you have major car trouble (brakes, tires, etc) that strands you. You don’t have $1000 in your checking account to pay for the necessary repairs, you don’t have $1000 in an emergency fund to transfer to checking, and you are terrible at running the shell game hustle.

How to: Handle this emergency by putting the repair cost on your credit card, and drive home. Do not pass GO, and you do not collect $200.

Now what?: As I mentioned before, you are “out of town”. You have a long drive home. Turn off your radio. Turn off your Gwar CD. Even turn off your Pete the Planner Show podcast (available soon courtesy of 93 WIBC). Think. Plan. The biggest mistake of using your card to pay for an emergency happens in this moment. You must put together a payment schedule to make up for this emergency. I’m not kidding. In the moment that you spend the money that you DON’T HAVE, you must start to calculate your “get out of debt plan”. Ask anyone who has funded a “not-that-big-of-a-deal” emergency with a credit card and is still in debt what their biggest mistake was, and they will tell you that it was their comfort with the debt. Think about how fast you want hand sanitizer when you shake someone’s hand who just sneezed in their hand and then forced a hand shake on you. THAT’S how fast you should want to get out of debt.

So you couldn’t afford the $1000 repair. That means that you must reduce your discretionary spending for a set period in order to pay off your credit card. What does that look like? You have several choices here. Here is what they look like:

  1. Reduce dining out to zero for a couple of months.
  2. Suspend cable/satellite for a couple of months.
  3. Sell some stuff on eBay or craigslist. Or hold a garage sale.
  4. Reduce your grocery budget by making “budget food choices”

The reality is that you are now in debt because you spend too much money. If you didn’t spend too much money, then you would have an emergency fund. You must reduce your lifestyle in order to get out of debt. And better yet, you must reduce your lifestyle to accumulate your emergency fund.  

How to choose a credit card?

People make WAAAAAAY too big a deal about “selecting the right credit card.” While you don’t want to get taken to the bank (odd use of a very true idiom), I think people waste way too much time and energy trying to pick the perfect credit card. My suggestion? Go to your bank, and get a credit card. Don’t listen to the benefits rundown. Don’t learn the point system. Don’t link it to your accounts. Don’t do anything but secure this TEMPORARY backup plan.  You won’t need, want, or use the card the moment that your emergency fund is funded. DO NOT overthink the “what credit card should I get” scenario. Just get one at your bank, and move on.

The emergency is never the event itself. It only occurs in your potentially poor response.

It’s never the economy’s fault

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In the last three months, three prominent businesses have failed in the city in which I live. These businesses collectively have been around for nearly 90 years. In their farewell media stories, all three owners blamed the economy. Seems like a pretty reasonable assessment of the situation…except that there are thousands of jewelers, PR firms, and homebuilders that are having their best year ever. The economy isn’t the problem. In fact, it’s never the problem.

Before we dance much longer, it’s important for you to know that I’m not speaking to or about the Occupy movement with my following words. Please don’t read into it that way. This isn’t a political post. This is a post about personal responsibility. Here’s what I mean: as the owner of four businesses, if any of them fail, it’s my fault. It’s not your fault or her fault or his fault or the economy’s fault. The economy hasn’t shutdown a single business. My business failure would be my fault. And my fault alone.

Do you have $150,000 in student loan debt that pisses you off to no end? Are you angry at your college, your parents, or Sallie Mae? If so, stop wasting your energy. Is your house worth less than you paid for it? So what, so is mine. We are the dummies that bought at the wrong time. It’s not the real estate market’s fault. It’s our fault. Do you have a gigantic car payment that is choking you because you lost your job? Don’t blame the company that laid you off. You signed the loan papers.

I made a promise to myself years and years ago to never blame anyone for anything that happened to me. Was I being a martyr? Nope. I was giving myself power. The second you blame someone or something you relinquish power to that entity. Why would you do that? By taking 100% responsibility for what happens to me, I have made better decisions and calculated risks more carefully. Have I run into some roadblocks? Absolutely. But I never waste any time trying to blame anyone because I already know that I am to blame. I simply start working on a solution. If you find yourself short on answers to your life’s financial problems, then I challenge you to “own the problem.” Take the power back from those people or places that you blame. You will need this power and energy to fix your problems.

Let’s briefly discuss the concept of blaming yourself. Here’s what it’s not: sitting in a dark room, drinking, and listening to Coldplay. Here’s what blaming yourself is: gathering your wits, moving on, and forming a plan. A few years ago, my buddy Jason got laid-off from a manufacturing gig, along with several of his coworkers. While his former coworkers sat around and blamed the economy, the industry, and the company, Jason blamed himself. “I chose the wrong profession,” he once told me. So he did his research, went back to school, and is now working a very stable and lucrative job as a registered nurse. On the flip side, I had a client blame his employer for his layoff for 2 years. He did nothing in the meantime…except ruin his marriage. “If XYZ corporation ruined my life, then XYZ needs to fix it” was his mantra. If you were to ask him what he does for a living he would tell you that he is a laid-off XYZ worker. Seriously. His wife got sick of his bullshiz and hit the road. She blamed herself.

Here’s what I would like you to do. Choose the worst financial things that have ever happened to you (e.g. job loss, debt, home value drop, lack of savings), and exonerate all the people and the things that you have blamed for these problems. Choose a problem, clear your mind, and simply say “it’s my fault.” The next thought in your head will inevitably be something like “how can I prevent this from happening ever again” or “how can I fix this.”

Do you think this post is full of crap? I’ll take the blame for that. It’s not. I must have just done a poor job relaying one of the great secrets of success. My bad.