Thursday, February 3

Be honest and spend less than you earn

STEVE RHODE

Gannett News Service

Some advice from Steve Rhode's weekly column about debt and how to get out of it:

One-income family

Question: Last year, my wife quit work after our first child was born. The loss of income was more than expected.

I have borrowed from my parents to cover expenses. I knew I would not be able to afford to pay it back. Now they want payment. What should I do?

Answer: The first step is to face reality.

If you are living beyond your income, you'll have to cut expenses or increase your income.

Get all the involved parties together and come clean. Once the truth is on the table, you all can work together to develop a solution acceptable to everyone. You owe it to your parents to be open and honest.

Cleaning up the past

Q: I am a graduate student with fairly poor credit. What is the best way to pay off the debt and remove bad items from my credit report?

I am trying to clean up my credit so I can buy a house in the next two years. Is that possible?

A: First get a copy of your credit report. For debts you're behind on, contact creditors to make payment arrangements and get caught up as quickly as possible.

Even if you do pay accounts in full, negative but accurate information still will remain on your report for seven years and generally cannot be removed. However, if you catch up on your accounts, save money for a down payment and pay your bills on time for two years, you may be able to get a mortgage.

For more details, download the free publication ``How to Buy a Home with Marks on Your Credit'' at Myvesta.org. While there, get a consolidated copy of your credit report.

Credit counseling

Q: I'm having problems paying my bills and I'm not sure where to turn. What should I do?

A: Most people assume they can turn to credit counseling organizations for help. They believe that these places provide independent assistance to the consumer for free.

Nothing could be further from the truth.

Recently, the Internal Revenue Service examined the activities and tax status of credit counseling organizations. They didn't like what they found. It is estimated about 40 agencies are being notified about revocation of their nonprofit status.

That's not the end, though.

The IRS has determined that most, if not all, credit counseling agencies may lose their tax status. This is especially true if the IRS adopts the point of view from a lawsuit, Credit Counseling Centers v. S. Portland. The court found that the credit-counseling agency served creditors over consumers and essentially acted as a collection company for credit card companies.

When you are faced with financial problems, you have three basic approaches: Reduce expenses, increase income or do a combination of the two. The technical solutions to overcome financial problems are not difficult, however putting the solutions in place is. This is where good advice from an impartial party is invaluable.

If you turn to a credit counseling agency today, you've got to be worried about whose interests they promote or if their proposal is affordable for you.

Without a doubt, the best solution is to find a trusted, impartial debt professional and listen to the advice. Sometimes the best path is bankruptcy. Other times it is not. Like no two fingerprints are the same, the solution that will work best for you may not work for the next person.

Absent that approach, you are left with three options:

- Do nothing until you can afford to do something. Not a great solution, but it will buy time.

- Pay what you can afford. This won't keep you out of collections and probably will damage your credit, but it is not bankruptcy.

- Pay your bills in full and at least the agreed amount.

Bankruptcy obligations

Q: Does bankruptcy guarantee financial release forever or can a current judgment and/or debt be pursued after the bankruptcy clears and I am financially stable?

A: If you file and complete a Chapter 7 bankruptcy, the most popular type, most or all debts you include are wiped out in a short time. If you file and complete Chapter 13, you repay part or all your debts under a court-ordered plan over a period of years. Either way, afterward, any debts discharged in the bankruptcy are eliminated. A creditor cannot come after you years later unless you did not include that creditor in the bankruptcy.

However, not all debts may be eliminated, including child support and alimony, taxes you owe, student loans or those for luxury items purchased recently. A lawyer will be able to give you more details.

You may want to consider options before bankruptcy.

Debt is about choices. Bankruptcy sometimes is the path people follow because they can't fathom other choices; others file bankruptcy with easy options just out of sight. Get good advice.

Couples and credit

Q: I recently got married and will move with my new husband in a few weeks.

His credit record is in very bad condition while mine is OK. I don't want his bad credit to hurt mine, so what do you recommend?

We will get a new place, so it will be a new address and bills for both of us. Should I put the bills in my name only? Should I avoid joint accounts, like bank accounts or credit cards, with him? Should we have everything separate, starting with electricity and phone bills?

A: Any accounts you and your spouse hold separately should not appear on each other's credit reports. However, joint accounts legally must be reported in both your names. If you decide to open any joint accounts, keep in mind you will be responsible for all charges he makes.

If he bounces checks on your joint accounts, that harms your credit rating, too. You did get married for better or worse and while most would advise against it, I suggest you not be afraid of entering normal agreements.

Keeping separate finances can be the foundation for keeping secrets, and you would have to keep checking up on how he is doing on his bills. If you work together and responsibly use credit, his credit will be resurrected. By the way, utility accounts usually are not reported to credit bureaus unless bills are sent to collection agencies.

Demanding teens

Q: My husband and I would like to know how to stay within a budget with three teenage girls. Usually, they ask for a need instead of a want; however, we are on a tight budget.

Where do we find extra money for these things? What can we cut back?

A: Your teenagers are old enough to start learning how to manage their own money.

Tell them you will give them an allowance and ask them to create a proposal describing how much they need each week and for what.

Then negotiate a figure you can afford. If they need more, consider allowing them to get part-time jobs. A few hours a week should not interfere with studies.

You and your husband also should carefully monitor your spending and look for ways to increase your income if you find yourself falling short of your financial goals.

Home equity juggling

Q: I had been renting for years and qualified for a 100 percent loan to buy my home. My mortgage is $304,000 at 5.5 percent fixed for five years, and I have a 7.5 percent home equity line of credit for $76,000.

I was laid off five months and accumulated $9,000 in credit card debt. I already had $18,000 in credit card debt when I bought the townhouse.

Properties similar to mine are selling for $420,000. Would I be wise to seek an increase on my line of credit and pay off my credit card debt?

A: You can't borrow your way out of debt. Paying off your credit cards with a line of credit will decrease your credit card debt, but you'll still owe the money. It's like trying to get rid of apples by trading for oranges. You've still got fruit.

You have $407,000 in total debt, including your mortgage, line of credit and credit cards.

I'm concerned about what you did with the $76,000 line of credit. If you previously consolidated debt and ran the debt back up again, your current plan is a recipe for disaster.

Let's assume you receive the credit line increase. Total debts against the house would be $407,000. Even if you were able to sell your home for the maximum value, you probably would receive about $395,000 after commissions and expenses. If something happened that required you to move, you would not be able to sell your home unless you found $12,000.

If you have your heart set on a loan, talk to a loan broker who can explore refinancing your entire home-secured debt into one or two new loans at a lower rate. You would have to evaluate if the proposal makes sense based on cost and how long you see yourself remaining in the house.

I also would guess you have no savings. All it would take is one more emergency like another layoff, an accident or a medical problem to push you over the financial edge. Be careful.

No home, no loan

Q: I always see advertisements about paying debt by getting a home equity loan. What do you do if you don't own a home?

A: While a home equity loan may lower the cost of credit, the only way to pay off debt is to use your income to make as large payments as possible each month. If you don't have enough money to pay your accounts off in three to five years, you must:

- Cut spending.

- Increase income. (Take a second job? Sell some assets?)

- And negotiate lower payments with lenders.

It may not be easy, but it's worth it in the long run.

The big payoff

Q: I am going to take $5,500 from my $14,000 individual retirement account to get relief from bills and need advice on how to best use it. My situation is not pretty: $3,800 in credit card debt on three cards plus bankruptcy two years ago. One day I'd like to buy a house.

A: Don't take money from your IRA to pay debt.

Not only will you lose that retirement money, but the IRS also will require you to pay taxes and a penalty for withdrawing it early. Don't try to solve a short-term problem (credit card debt) with long-term money (retirement funds).

In addition, if you use the money today to pay off credit cards and taxes, you have spent $5,500; if you leave it there, this $5,500 will be worth $60,000 in 25 years if it grows at 10 percent a year. If you are saving for a house, tax breaks are available for first-time homeowners if you withdraw the money from an IRA.

The solution lies in saving this money for a longer-term goal.

Start tracking every penny you spend and find ways to cut back and put more money toward your debts. A part-time job, if you use that money toward those bills, can help.

In the long term, also find out what you need to do to boost your income: Get more training, go back to school or even look for a new job.

Closing accounts

Q: What is the best way to cancel credit cards without hurting one's credit rating? I am always suckered by signing up for a credit card and receiving something free. I now have a pile of cards.

A: To find out cards you own and may have forgotten about, order a copy of your credit report from one of the major credit bureaus: Equifax, Experian or Trans Union or get a consolidated copy of your report at Myvesta.org.

To close an account, call the customer service department, ask to close the account and say you want it reported as ``closed at consumer request.'' Check www.cardweb.com if you can't find the phone numbers for some card issuers.

A warning: Close old accounts slowly. If you close a bunch at one time, it may hurt your credit score. While there's no magic number, one or two a month is probably fine. It's also a good idea to keep two or three major credit card accounts open, even if you don't use them often, to serve as credit references.

Low-rate cards

Q: Where can I get information about low-rate credit cards? I have a fair amount of debt and pay my bills on time. I want to lower my rates to save money.

A. First, call your current companies and tell them you'd like to consolidate your credit card bills at the lowest rate possible. Ask them for their best rate on your current balances as well as any you transfer. You may be surprised at how many will give you a deal to keep your business.

And watch your mailbox. Read offers sent to you. Great deals could be under your nose. You also can shop for a low-rate card through CardWeb at www.cardweb.com, from Consumer Action at www.consumer-action.org, or by sending a self-addressed stamped envelope to Consumer Action, Credit Card Survey, 717 Market St., Suite 310, San Francisco, Calif. 94103.

In addition to getting lower rates, pay as much as you can toward your most expensive debt first, while making minimum payments on the others. Once that first debt is paid off, tackle the second one, and so on.

Myth busted

Q: I heard if you pay in good faith to your debtors they cannot do anything. I was told if I write them a letter stating my hardship and tell them I can only send $10, they have to take it and cannot report me. Is this true?

A: That is false, and they will report to the credit bureaus your failure to make the regular payments. If you want to know what your creditors will do if you don't pay the minimum, refer to the agreement you signed when you took out the credit. It is all there in black and white.

---

Steve Rhode is a money coach, president of Steve Rhode Inc. and co-founder of the nonprofit consumer education group Myvesta.org. Ask a question at SteveRhode.com.

Related tips