Money 102: A Hard Liability

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Money 101: Why You Should Manage It Carefully

There are only two kinds of debt that are even worth thinking about having

  • Home mortgage
  • Education, but only if the training reasonably ensures a return on the investment

How a debt works (with an example)

  1. The item’s value ($1000) and interest rate (10%) across a period (monthly) are agreed upon as well as the minimum payment ($20/month)
    • There are 3 parts to a debt
      • Principal – the amount you are borrowing ($1000)
      • Interest – the amount you pay in order to borrow (10%)
      • Amortization – the calculation of the debt (monthly)
  2. Every month the minimum payment is paid ($20)
    • If it’s underpaid or not paid, late charges may be applied and the results re-amortized
    • If it’s overpaid, all of the payment goes to the principal and the results re-amortized
  3. On many loans, the payment toward principal and interest is staggered
    1. All of the interest that will be paid, assuming standard minimum payments is calculated ($1000 at 10% across 65 months is $299)
    2. The initial payments are made with most of it going to interest (Month 1’s $20, $19 to interest and $1 to principal)
    3. Any additional payment is put toward the principal, assuming there aren’t further terms to the loan agreement (Month 2’s $30, $19 to interest and $11 to principal)
    4. Near the end of the loan, the principal becomes a larger portion of the payment (Month 40’s $20, $4 to interest and $16 to principal)
    5. In short, the staggered payment ratio means that the faster a debt is paid off the less that is ultimately paid

There are hundreds of lies marketed every day about debt

  • Lies about debt have been around for decades
    • No matter the marketed angle from bankers, debt is a product that sells instant gratification
    • Credit cards payments should not be seen as bill payments
    • “Good Debt vs. Bad Debt” is historically a completely new concept
    • The “Good Debt vs. Bad Debt” paradigm has been sold since the 1960s, and is historically a completely new concept
  • Rewards programs and incentives from credit card vendors are gimmicks to sweeten the sale of the product
    • Incentives like T-shirts and coffee mugs are worth less than a few card payments
    • Credit card point accumulation is not an investment or savvy spending
      • Reward points are commonly unredeemed
      • Many rewards programs have expiration dates on the points and limits on being able to use them
      • Several months of accumulated interest will strip years of the value of diligent points accumulation, even when the points are tripled for the first year
      • Donating the points to charity is just a mind game to attach positive feelings to debt
      • Cash back is not as great as just having the cash
  • Low card fees are usually not worth it
    • 0% interest rate for 18 months sounds great, but the card will be inadvertently used like a bank account for 18 months
    • No annual fees for the first year mean that there will be fees for subsequent years
  • Online purchases do not need credit cards
    • Bank debit cards are just as fraud-protected and sufficient as credit cards for every possible card-related purchase
    • People have been proven to spend more when they use credit cards because of the extra degree of emotional separation
  • Nothing is “good” to go into debt for, even big things like houses
    • Debt guarantees added stress and risk
    • Loan consolidation is usually bad for several reasons
      • Typically debt consolidation will lump in low-interest loans with it
      • Borrowing from A to pay off B just changes the owner of your debt, and this is not always a good thing
      • Smaller payments mean that there is more time being indebted and more compounded interest
      • Psychologically, debt consolidation makes people more likely to use the freed up line of credit for something else
      • Paying off one huge loan is more daunting than many smaller loans
    • Cosigning a loan is always a bad idea
      • The reason the person needs a cosigner is because they have not been deemed as likely to pay
      • If they cannot pay for any reason, you will be chased down by collectors for the unpaid amount
    • Financing (a sophisticated term for debt) is marketed as a tool for “necessary” purchases, but the payments on the items can yield exponentially more income for companies from you than paying in cash
      • If something depreciates in value over time like furniture or mattresses, it is a complete risk to borrow against it
      • If it takes more than 18-24 months to pay it off, sell it or simply don’t buy it
    • Cars do not need financing to purchase
      • New cars lose about 60% of their value in the first 4 years
      • Almost all self-made millionaires drive used cars 5-15 years old
    • Payday loans sound reasonable in an emergency, but the financial benefits are far outstripped by exorbitant rates and extremely high fees
  • Bluntly speaking, a credit score is an “I love debt score” and has no bearing on financial success, and is a calculation using your data from the past 7 years
    • Demographic information
      • Name and any other names
      • Current/past addresses, which can be negatively affected by a lot of moving or inaccurate details filed with the government
      • Phone numbers
      • Birth date
    • 35% payment history
      • Any bankruptcies or judgments for the last 10 years
      • Bank overdrafts
      • Missing bill payments or paid on time
    • 30% debt level
      • Credit accounts and their limits
      • Unused credit accounts that are left open
    • 15% length of history
    • 10% new credit, how often you apply for it and where (less is better)
      • Credit cards
      • Large purchases
      • Mobile phone contracts
      • Mortgages
      • Personal loans
    • 10% types of credit
      • Bank details
      • Any financial associates (less is better)
    • This report is compiled by 3 different bureaus and is used to determine how likely you’ll repay a loan
      • There is technically several credit “scores” based on small data variations
      • It can also be used by employers, minus the credit portion
      • It can be obtained for free at least once a year from each of the bureaus
  • Though many people think debt is a financial tool, it is actually financial slavery, and most millionaires will agree
    • The mindset of debt being a way of life has to stop in order for actual wealth to be generated

The only way to quickly get out of debt is to pay more than the standard amount every month

  • Make an additional payment on top of the standard one
  • Make a payment rounded up to a larger amount
  • Have a large payment whenever you get a raise, bonus or other windfall
  • If you know you will be making a late payment, call the creditor before the due date to gain some forgiveness from late fees

Debt collection is a very unscrupulous industry

  • The collector’s job is to get your money, not to be your friend or help you out of your situation
  • They will try to induce strong emotional reactions of fear or anger from you, which is intended to motivate you to pay them back
  • You do have rights
    • Outside of money you owe to the government, a creditor cannot garnish your wages or take money from your account unless they sue and win
    • It is illegal for them to harass you or call between 9 p.m. and 8 a.m. unless you have given them permission to
    • You are able to demand they stop calling you at work
    • You are able to demand that they stop all contact with you, excepting them notifying that they are suing you
      • This will halt all negotiations, including any chance of a positive resolution, which increases likelihood of being sued
      • If you do get sued, they will likely win since you do owe them money, where they can then garnish your wages
Next: Money 103: Setting Goals & Budgeting