In this session, I will highlight most of the classical forms of consumer debt that you should avoid. Stop being taken advantage of and begin your journey towards becoming DEBT FREE!
Types of Consumer Debt
* Credit cards
* Home equity loans
* Finance companies and thrifts
* Friendly loans and co-signing
* Debt consolidation
There are 7,000 institutions issuing credit cards (Visa, MasterCard) in the United States, 30,000 different credit card programs (Visa, MasterCard, Discover, American Express and Diners Club), 200 million new credit cards issued in 2000 with an average charge per transaction (Visa, MasterCard) of approximately $70.00. Source: CardWeb.com, Inc.
The average interest rate charged on credit cards is approximately 14% with the highest credit card interest rate being charged by CompuCredit at 41%. In 2001, the average U.S. household with at least one credit card owed $8,562, up from $2,985 in 1990. The average credit card holder has 6.5 credit cards while the average number of cards per household is 14.3. Source: CardWeb.com, Inc.
The top three sources of revenue for credit card companies is 1) Interest 2) Merchant fees and 3) Late fees. In June 1996, the U.S. Supreme Court ruled that commercial banks could charge whatever fees they want on credit cards, anywhere in the country. The 1996 ruling preempts state laws regarding card fees for an out-of-state issuer. Since then, late fee revenue generated to bank credit card issuers has soared from $1.7 billion to $7.3 billion, annually. Since 1996, average late fees have more than doubled, from an average of $13.28 to $29.84. Survey found that 58.3% of consumers say they have been hit with late fees during the past year (2001). Source: CardWeb.com, Inc.
How much does your credit card cost?
Did you know that making the minimum payments on a $3,000 balance carrying an 18% APR will take 431 months (almost 36 years) to pay off and cost you $7,511.74 in interest? WOW! That is what I call prison! And just think, you did it voluntarily! Source: CardTrak
You can also access software that will help you analyze your debt repayment plan. There is a charge for the software but they have trial periods that might serve your purposes. Just click here to access their website.
Some of the common rationalizations that are used to justify credit cards:
Must have a credit card to cash a check.
Must have a credit card to rent a car.
Must have a credit card to rent a motel.
Must have a credit card for business.
Each of the above needs can be satisfied with a debit card. However, there are some car rental companies that do not accept debit cards.
Even for those who claim to pay their credit card balances off each month, there is still the hidden danger of over spending. Surveys prove that when plastic is used 54% more is spent for food items and 12 to 18% more for non-food items. A credit card provides a great convenience but the same convenience is available with a debit card. The most important concern with spending money is when it is impulsive and unmonitored. No matter whether your purchases are made with cash, check, debit card or credit card, the only way to stop impulsive spending is when all of your purchases are for budgeted items. A monthly budget provides a means of control and accountability (see BUDGET).
A very simple test that you can give yourself to determine if you should have a credit card consist of two questions.
Are ALL of your credit card purchases for budgeted items?
Do you ALWAYS pay your credit card bill in full on the date it is due?
If you answered no to either question above, you failed the test and should conduct PLASTIC SURGERY on both his and hers credit cards.
Home Equity Loans
Equity is computed by subtracting the amount owed from the market value of your house. For example, if the market value of your house is $150,000 and you owe $100,000, then your equity is equal to $50,000. The job of many lending institutions is to find a way to convince you to pay them a fee and interest to help you spend your hard earned equity.
There are several creative schemes that have been devised to help you turn your equity into debt. One such way is a credit card that is tied to the equity in your house. As you use the credit card, the debts are paid with your home equity (until it is gone). Another program I have seen allows the home owner to use their equity to purchase an automobile (see AUTO). There is nothing like taking money that is appreciating and purchasing something that goes down in value like a rock. You might ask, “What have I got to lose?” You could lose your house!
The bait used to attract many people into the home equity trap is that the debt is tax deductible. As it was discussed in the section on HOUSE, the deduction only applies to the interest portion of the loan and does not justify the cost of the debt. These type of loans have high interest rates that normally float (fluctuate with the economy).
Before you sign up for a home equity loan, be sure to read the article “Home Equity Loans: Borrowers Beware!” Learn about the deceptive lending practices such as equity tripping, loan flipping, hiding loan terms and packing loans with extra charges.
Finance Companies and Thrifts
Finance companies and thrifts are the ultimate “rip-off” when it comes to lending money. These companies specialize in high risk loans and charge extremely high interest rates! Depending on state regulations governing interest rate caps, these loans can be 20+%. The bait used for many of these loans is 90 days same as cash. They prey on the needs of those who live paycheck to paycheck with poor credit. Be aware that on the 91st day of the loan you will be charged interest for the previous 90 days if the loan is not paid in full.
Friendly Loans and Co-signing
One of the best ways to lose a friend or strain a relationship is to borrow money from a friend or family member. You would be better off just giving the money to the friend or family member.
When it comes to co-signing on a loan with a friend or family member, NEVER do it! When you co-sign with someone you are in effect borrowing the money. If your friend or family member defaults on the loan, you are 100% liable. This has the potential of destroying the relationship (Proverb 17:18; 22:26)
Lenders who market debt consolidation loans normally pay all of your bills off and then let you pay them, plus a fee. This method might decrease the number of checks you write monthly but will in most cases increase the number of months you write the checks. The bait used for this type of loan is “one easy payment”! Debt consolidation does not eliminate the debt, it merely juggles it around. This method of getting out of debt should not be used (even if it is at a lower interest rate) until the spending problem is corrected. (see WARNING about credit-counseling agencies)
You can devise your own debt repayment plan using the forms provided with the budget book forms (click here). Check out this link for more reading (Take Control of Debt).
Mike Coe is the President and Founder of the non-profit teaching ministry, Christian Oriented Education, Inc. He specializes in seminars, classes and speaking engagements dealing with personal finance from a Biblical and practical perspective.