Student Loan Update – April 2017

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When I graduated in May of 2017, I chose not to think about my student loans. It was a hot humid day but people traveled from different states to come see me complete another milestone. I was juggling full time work and a part time MBA program right when my husband was settling into a new job. I had a lot to be thankful for and a number of people were proud of me. The Department of Education was going to grant me 10 years starting in December 2015 to agonize over student loans but I was never going to get another graduation day.

I picked up my diploma after the ceremony and I sat in the front seat of my husband’s car running my fingers on it back and forth as my parents sat in the back. I was pretty impressed with myself. Not in a gloating kind of way but more so in a “I actually did it…” Almost as if I couldn’t believe it.

The next day, things went back to normal and I decided that the honeymoon period with the diploma was over. Real world responsibilities required me to know what my balance was and what my monthly payments were projected to be. It was nothing that I could not afford but it was painful. Over $350 a month a and $40k+ balance. I could get a whole new car with that! I devised an aggressive pay down plan as follows:

  1. Start paying immediately rather than waiting for the grace period
  2. Apply all raises to the monthly payment and all bonuses to the balance
  3. Apply all tax refunds if any to the balance

3 simple steps. The toughest part was the discipline of not eating out as much as we would have liked and not splurging at the mall. However, 23 months later, that plan has worked so well that I am dancing for joy.

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In case you are having trouble reading the small font, this says:

Current balance $11,641.17 & Due date 7/18/2020

While there are no guarantees, these numbers indicate that I am likely on track to finish paying the debt off by the end of the year if all goes as planned. That will be 8 years ahead of schedule. This is more than I could ever hope to achieve. When I said I was determined to pay and save myself an astronomical amount of money in interest, I was not joking.

I am grateful for the discipline I have that allows me to focus on long term independence goals rather than instant gratification. I’m also thankful that I have a supportive husband who understands my goals and can see my vision for our family. Some people would have valued the high life over a debt free life and it could have been a source of friction. Instead, he trusts my judgement and is happy delaying a little bit of gratification in favor of peace of mind.

Dear DOE, thank you but no thank you. I will decline your offer to take a 3-year hiatus from my obligation. You’re going to collect these payments and you’re going to like it. But better yet, you will set me free.

 

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The Anatomy of a Credit Score

What makes up a credit score?

Credit scores are the most popular mysteries. We know they’re important and we know that we all have one. Furthermore, people and organizations who are not lenders that we interact with (landlords, insurance companies, employers) are placing increase value on the credit score as they evaluate us in all aspect of our lives, making it some type of character evaluation tool. But most of the time, we don’t know the most important thing we should know about our credit score: what it consists of, what influences it. Below, you’ll see a graph of your credit score and a written breakdown of the various components.

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  1. Payment History – 35%: For obvious reasons, this is the most important and largest component of your credit score. It tells anyone who reviews your credit report how likely you are to pay your debts based on your payment history. Are you chronically late? Do you have 7 accounts in collection? Are you consistently on time? Lenders want their payments on time every time. That is the most important thing when anyone gives you a loan. Both parties agree on a payment date and the lender is counting on getting that money on the date specified.
    • How it affects your score: If you don’t have a good history of making payments, that is the biggest risk for a lender and report reflects that poor history, your score will suffer.
  2. Amount of Debts – 30%: This one is a little tricky. While it tells the story of how much debt you have outstanding, all debts are not equally weighted in this category. Revolving lines of credit impact that area more than an installment loan would. This is because the principal balance of an installment loan can only go down while a revolving line tells them how likely you are to borrow up to or close to your limit. To a lender, anyone who continually maxes out a card or gets close to doing so is someone who is not able to manage their debt responsibly.
    • How it affects your score: Maxing out your cards or even using more than 30% of your credit line will negatively affect you.
  3. Length of Credit History – 15%: This one is pretty intuitive. It’s much harder to “fake the funk” over a long period of time. If you’ve had a credit card for 10 months, it’s much easier to have a positive history. However, if you’ve had it for 10 years, chances are you have gone through some major changes both positive and negative and you have managed your finances a certain way throughout it all. Creditors can best evaluate your long-term financial behavior when you’re past the honeymoon phase.
    • How it affects your score:  The older your accounts are, the better your score.
  4. New Credit – 10%: This component tells creditors if you’re out here seeking to borrow money from anyone who will lend it to you. It also give them an idea if you’ve been denied by other lenders as they can see when you had an inquiry but no new account has been reported opened.
    • How it affects your score: The more new inquiries you have on your report, the lower your score.
  5. Other Factors/Types of Credit – 10%: This is the variety or diversity of credit you use and how well you manage them all. If you only have student loans, it doesn’t mean that you won’t have a good score but your score may not be as high as someone with a variety of credit types, all else being equal. However, it is not very heavily weighted and there are enough points in the other categories to allow younger borrowers to still have an excellent score.
    • How it affects your score: The most varied your credit types, the more experience it shows you have managing different types of lenders and credits.

Now that you know the anatomy of a credit score, hopefully you have all the necessary tools to heal it.

Why You Should Check Your Credit Report

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If you have not figured it out by now, your credit history is extremely important. Credit has transformed from something financial institutions used to determine if you can be trusted with their money, into something everyone else uses to assess your character. Here are some (unexpected) uses of your credit report:

  • Insurance Companies: They are now checking your credit report to determine what your risk appetite is. They’re also using it as a character assessment tool which they use to influence your premiums, however small. While the use of this varies from company to company, chances are you won’t know until it’s too late.
  • Current Creditors: We expect people we are requesting loans from to check our credit reports. What we don’t anticipate is someone who already claimed to have trusted us to check in after a financial commitment has been made. However, they’re definitely looking in on us. They use information to determine if there have been any additional debt added and what our behavior has been (i.e. delinquency at other financial institutions). The uses of this information will depend on what they find. It could be used as a marketing tool (additional offers) for good behavior or a punitive tool (credit card interest rate goes up or credit limit gets inexplicably reduced) when they detect potential issues.
  • Jobs: I don’t know if this is a product of the millennial generation being over educated for open positions, or a result of the recession that flooded the market with unemployed people looking to fill very few slots, but it appears that companies are really going out of their way to reduce the pool of candidates. In the 9 years I’ve been out of college I have never been a candidate for a position that did not require a credit check, other than retail. The requirements were always: background check, references, credit check and drug test. References and drug testing were not always required, but background checks and credit checks were always consistent.

With all these parties reviewing or requesting your credit report for purposes other than borrowing and/or large purchases, why would you want to risk not being fully aware of any adverse information that might show up? The sooner you find something negative, the better you can respond, either to defend yourself or to take corrective action. Here are the reasons why you should check your credit report regularly:

  • Time sensitive: Changes to your credit report happen relatively quickly. All it takes is 30 days for a bad payment to show up on your account and it’s there for 7 years. Your score, your history and your risk profile can change very fast as a result of 1 negative data. The sooner you are aware, the faster you can address it.
  • Mistakes: Some of us have common names, others are simply victims of a fast typist who transposed a few digits on the social security section of a form. Either way, errors on your credit reports are actually not rare and can lead to having your character brought into question, while it’s really the OTHER Erica Smith who is a total crook and won’t pay her credit card bills.
  • Identity Theft: How would you feel if you worked really hard to build your credit for 3 years to buy a car only to realize you’re already overdue a very expensive car loan but you don’t have a fancy ride? Picture this… someone steals your identity, takes a loan under your name, rerouting the mail to a different address so you never got the mail. They have also conveniently not made a single payment since they drove off the lot. This is the worst kind of mistake you can have on your report. Because you’re not just proving they have the wrong social security number, which is easily verifiable. You have to prove that someone who tried really hard to pretend they are you, were not actually you. You’re stuck clearing your name, proving that you are not responsible for these purchases or credits and you aren’t a con artist looking to get one over on your creditors.

Should You Pay Your Children’s Higher Education?

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I had this discussion with a co-worker a few months back when he said that he was at odds with his wife over their daughter’s tuition bill. She did not think it was a good idea for them to co-sign a loan for her. I wasn’t sure if he was asking for my opinion or just venting, but I wouldn’t be me if I didn’t put in my 2 cents. So it became of matter of to pay or not to pay.

I came up with a little test to help you figure out which way you should go. It’s as simple as answering YES or NO to the following questions:

Are you debt free? – Credit card debt, your own student loans, car note, etc.

Is your primary home paid off?  – No other bills besides taxes, utilities, association dues, etc.

Are your retirement accounts maxed out? – The IRS released the 2016 401K contribution limits here.

Do you have enough in an emergency fund? – Minimum 3 months of living expenses.

Are you adequately insured? – Health, life, personal property, car and homeowners.

If you answered YES to all of these questions, you can afford to take whatever money you have left, after meeting all your obligations and putting food on the table, to pay for your child’s high education. If you have enough to pay the entire bill, more power to you. If you’re just contributing to part of it, well your kid should be grateful nonetheless.

If you answered NO to any of these questions, you CANNOT afford to pay for your child’s school and he or she needs to figure it out. Why? Because your creditors are not going to care that it ain’t cheap for Junior to go to Stanford. They’re going to want their money and they will make your life miserable, as well as ruin your credit to collect their funds. Because it would suck for Junior to come home for thanksgiving break and find you homeless after a foreclosure. Because the older you get, the less time you have to work and save for retirement and NOW is always the right time. Because an emergency could set you back financially for years to come. Because not having appropriate insurance can put you or your survivors under extreme financial strain.

But this guy asked about student loans, not tuition. The answer is no. Don’t do it. Let me make this clear: NEVER CO-SIGN A LOAN FOR YOUR CHILD’S TUITION. If they die, you are stuck with the payments. If they default, you are stuck with the payment. If they drop out of school and default, you are stuck with the payment for a degree they didn’t even get.

I graduated college at 21 and started working 2 weeks later. I later got an MBA while continuing to work. So I have worked uninterrupted ever since undergrad, and I plan on retiring at 65, sooner if I do well on my investments. That’s 44 years of potential for full time work where I can earn enough money to pay my own bills. My parents are in their 60s and my dad is thinking about retiring within the next 2 years. Do you think it would have been fair for him to be looking down the barrel of 10 years of loan payments? Who can afford it the most? My father or myself? Even if I lose my job, I probably won’t be out of work for 30 years. My parents will be if they live 30 more years (which is not too far fetched because my grandma is 90 and my grandfather died at 94).

They have the rest of their lives to work and pay back their school loans. You have maybe another 15-20 max left of working and saving for retirement. How much blood pressure medication co-pays do you think your social security checks will cover after you’re done paying for your child’s student loans?

If you don’t believe me, maybe you’ll believe someone who already made the wrong choice on that one.

“Use this one simple trick, banks HATE it!”

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I can’t be the only person who has seen those ads around the Internet. Usually they’re referring to mortgages and as a result, they’re one of the most successful click-baits. Why? Because whether you own or rent, housing is usually your biggest expense. And if you made the mistake of buying too late in life, you might be one of those people who is worried about retiring or even dying with mortgage debt. This means that articles or services promising to teach you about how you can eliminate that debt as quickly as possible will get your attention.  Unfortunately, many of these people are also trying to sell you something. Well, I’m not, and today, I decided that I was going to make sure you never have to click on those links again, by telling you these “simple tricks banks HATE!”

Before I start, let me highlight the importance of eliminating mortgage debt.

  • Housing is not just a huge expense, it’s also a necessity. You’ll always need a place to live, and given the way rent and housing prices are, if you can have a roof over your head for only the cost something as relatively marginal as property taxes, you are doing better than most.
  • You’re less likely to lose your house if your debt is paid off. Think about how many people lose their houses to banks because they couldn’t afford the mortgage, versus house many people lose their house to a tax lien.
  • It’s one of the few things you can guarantee will pass on to your heirs. The building might fall apart, but barring an environmental crisis in your immediate area, the land will always be there. If you can help it, don’t pass on debt.
  • Depending on houshing type, location and maintenance costs, it could become a good source of income. (More later on how I became an accidental landlord.)

The “tricks”

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With these reasons in mind, the point is to pay off your mortgage as quickly as you can. The following methods will help you achieve that goal. Some of these rely on good habits and discipline. Others rely on a windfall and some rely on your type of financing. You may even do a combination of them to see which one suits you best.

  1. Your terms are key. Do you have a 30-year mortgage or a 15-year mortgage? What’s your interest rate? If you have a 30-year mortgage, you will be in debt for twice as long and you will pay more in interest. You’ll also have a much lower monthly payment. What about your rate and down payment? If you have great credit (740+), steady employment and a low debt to income ratio, you’re almost guaranteed the best available rate. This means you’re paying as little as possible on your debt and may be able to own for as much or even less as you would rent (depending on your local housing market.) And of course, the more you put down, the less you have to borrow. So the key to borrowing cheaply for a shorter period, really starts before you get a loan. It’s about cleaning up your credit, saving as much as possible and choosing the mortgage that is right for you.
  2. But what if you already bought a house? Fret not. You can always refinance. Those who bought back in 2005-2006, were borrowing money at ridiculously high rates. Although I didn’t have any money to buy a house at that time, in 2007, I had a CD that was paying me 5%. If you know anything about banking, you can try to guess how much mortgages were. If not, you can look up historical mortgage rates and get confirmation right here. So what would a smart person have done in 2012 if they bought a house in 2006? Assuming they kept their credit clean and continued to qualify for great rates, they would have refinanced their mortgage to a 15-year mortgage at 2.5% and NOT TAKEN ANY EQUITY OUT. What would that achieve? It would have not only sliced their rate in half, but also their term. This would have probably kept their mortgage payment close to the same but they would be out of debt in before 2030, instead of after 2036. If you think about how much you pay towards your mortgage (or rent) every month I want you to multiply that by 72. This is all the extra money they could save, reinvest or use toward something else over the course of 6 years.
  3. At the same time, some people just wanted a break. Many of us really over extended ourselves when we bought homes before the bubble. This means we wanted relief from our high payments, not to keep them the same. Good news! You can also refinance to another 30-year mortgage. You do the same thing above: apply for a new rate, don’t borrow against your equity but keep your 30-year. You don’t get a 2.5% rate, but you might have been able to get 3.5%. Anyone looking at houses now might find it hard to believe, but these rates were definitely available as recently as 2012. I got my house in 2013 and I have 3.75% fixed. But ultimately, going from 5-6% to less than 4%  reduces your monthly payment amount. The biggest benefit is that you can continue to pay the difference towar your principal balance IF you can afford it. But if a bi expense comes up and you need that money for something else, you can reallocate your finds accordingly. You are not bound to the bank to make the higher monthly payments on their schedule.
  4. But what if you already have a great rate and refinancing makes no sense? Well I have a “one simple trick” for your situation too. Before I go into it, let’s remember this basic principle of time: 12 months and 52 weeks in a year. Say your mortgage is $1,000 a month. You can pay $1,000 a month so $12,000 a year ($1,000 x 12 = $12,000). Or you can pay $500 every 2 weeks, so $13,000 a year (52/2 = 26 payments, $500 x 26 = $13,000). It’s like magic! So it’s like making one whole extra payment a year. You can also achieve this same result by making your payments as scheduled, but for the last payment of the year, making an extra payment and applying it to your principal. You can also take the extra payment and divide by 12, and add that number to your principal every month. (In our example this would be $1,000/12 = $84, monthly payment = 1,000 + 84 = $1,084). This can and should shave years off your mortgage. Will it be 6-7 years? Probably not. But if you can save 2-3 years or even 1, that’s 12-36 payments you don’t have to make. That’s money you don’t have to pay interest on. That’s 1-3 years of worry free living.
  5. What if you can afford extra payments on a regular basis? Take advantage of windfalls. This doesn’t require any math or the same discipline as making extra payments, and it doesn’t even rely on you having good credit. The point is to take any and all unexpected monies and put it towards your house.  Gifts, inheritance, bonus, lotto winnings, tax returns, that $100 bill you found in the parking lot of the grocery store, etc. As long as you weren’t relying on it as s regular source of income, if it comes in, pay your debt.

Here you have it: my 5 “one simple trick” to pay off your mortgage faster. But remember, you must assess your own situation individually. If you get a condo, they may not have association dues or they may not include your homeowner’s insurance. Not everything works for everyone. So don’t come back here trying to sue me if you didn’t like your results lol. I am a big fan of the banking calculators. You can them on bankrate, zillow, etc. While they’re great at giving you a snapshot of your mortgage, be careful, because they don’t always included all your housing costs. You can even use them to test some of my theories.