As I was researching some ideas for debt reduction I came across this article published on the AARP site. As I read through the suggestions I couldn’t believe some of the ideas that the author was recommending as a ‘good’ overall financial strategy to reduce debt.
My comments and analysis follow the tenets of the AARP article advice which is highlighted in Bold.
The More Common Advice:
Bump up your debt repayment percentage – Yes, if you have the discretionary income available in your budget, you should pay down your debts and never settle for paying the minimums. Most people who are looking for ‘debt reduction advice’ don’t have much discretionary income in their budget to fuel paying off debt using excess funds.
Use your tax refund check to pay down debt – I can see this… especially applied to their example of ‘paying down debt versus blowing it on some large exciting purchase’. So, ‘yes’, absolutely in this case.
This option depends, however, on the rest of the person’s financial situation. My first question would be, ‘what are your monthly expenses and how large is your emergency fund?’ What if they don’t have at least 3 months of expenses set aside to back themselves up ‘just in case’ something wonky happens with the monthly cash flow? Why? Your creditors won’t much care if you get laid off and can’t make your payments. An emergency fund with 3 months of expenses gives you 90 days to find another job and secure another source of income without defaulting on your financial responsibility.
Make more money – No sweat. Let me warm up the press and ink the rollers! This is an AARP crowd and likely on a fixed retirement income with limited job prospects. Not that this isn’t possible, but it’s rather unlikely. For a younger crowd? Certainly, trade some more time for dollars and pick up a second job, a part-time job, a side gig, or download a Lyft or Uber app. ‘What was that Ebay login that I haven’t used for 5 years?’
There are only two answers to having more discretionary income, and making more money isn’t the easy one. The one that is usually closer to your direct control is eliminating unnecessary or non-essential expenses. Cutting the ‘fat’ on your budget is usually much easier and much quicker than figuring out how to increase the cash flow. Though doing both can be downright ‘marvy’! That’s 60’s slang for ‘marvelous’. (The AARP crowd would get it…) Reducing expenses wasn’t mentioned, though, baby boomers would likely already be conservative on their budget in retirement.
Sell items for cash – Yep, if you’ve got a garage or attic, and the shed, and the storage unit loaded with stuff you hoarded over a lifetime, a garage sale might be in order. The proceeds from this caliber of inventory wouldn’t likely be what you’d need to retire any serious amount of debt.
By comparison, selling the fishing boat that you waited most of your life to have and spend your mornings fishing would likely yield a better chunk of change. As would the golf clubs, the golf cart, the cruise tickets you already bought and paid for. But that really undercuts the reason for having all that free time in retirement, doesn’t it?
Debt happens because we spend money that we don’t have and need to pay back. It’s better, especially on a fixed income, if you have the financial skills to manage your cash flow so that you can pay back any credit you use if you should need to spread some payments out over a few months.
The Not-so-Good Advice:
Use savings to pay down larger debts – Again, I’ll revisit the three-month emergency fund idea here. If you’ve got more than three months of expenses in your savings, I think you can afford to use the extra funds to eliminate some debt.
If you have that kind of cash available in a savings account, however, why do you have outstanding debts earning negative interest? Why didn’t you finance your purchase yourself out of savings and pay yourself back over a few months? That’s why you have an emergency fund and have your own wealth to work with!
Negotiate for a lower interest rate – Usually by the time you’re ready to call your creditors and negotiate, you’re in a position where you’re having trouble making your minimum monthly payments. If that’s the case, negotiating something other than the terms to which you agreed is likely to negatively affect your credit score. This can trigger penalty rates on your other cards and credit accounts and bounce interest rates up to penalty levels as high as 27 to 30%[i]
The Worst Debt Reduction Advice:
Do a credit card balance transfer – I get asked about bouncing credit among balance transfer offers all the time. I don’t like this option. First, the zero balance offer rarely comes from a bank you’re already doing business with, so you’re going to apply for another line of credit and a larger potential debt load which dings your credit score. If you’re having issues paying the balances you already have, the last thing you need is more credit.
Once you have balances reduced or consolidated on your ‘favorite’ cards, the bad habits that ran up balances that you couldn’t pay off easily once will likely run those balances up again. This is just more fuel for an already out of control fire. I don’t like this one, even if the person does have some good discipline to resist running up balances again, it’s just not a good option.
Consider cashing in your life insurance – Unless your beneficiary list is empty because those you intended to leave your death benefit to have pre-deceased you, this is not usually a good idea. If you have built up cash value in a life insurance policy, cashing it in terminates your coverage and all the tax advantages that go along with having this type of account.
Life insurance benefits pass to your beneficiaries tax-free and without probate proceedings; major tax advantages. In many life policies, you can borrow against your accumulated cash value as collateral at very low rates and continue to earn a return on your cash balance without depleting it. There is often a positive margin between the rates you can earn versus the interest on the loan. The loan, which can never be more than the cash value, can be paid back or retired out of your death benefit when you pass on.
And the downright irresponsible:
Use a statute of limitations law to eliminate old debt – Here the writer recommends, “…contact your state Attorney General or the consumer protection agency for help and advice regarding your state’s statute of limitations on credit card debt.”
File bankruptcy to discharge your credit card debts – Granted, the writer does stipulate, “Bankruptcy should only be used as a last-ditch option to rid yourself of debt.”
I agree, bankruptcy should be the very last choice. But in each of the last two options the advice is to ‘default on your end of the contractual agreement you made when you borrowed the money’. Aside from taking the obvious hit to your credit rating and making your life that much more expensive for years, is the complete lack of character it takes to consider these options. If you’re bankrupt and have no means to repay due to a failed business or law suit that didn’t go well, then you may not have any other option than to protect yourself with bankruptcy. If your situation looked even remotely like this might happen, you should not have borrowed any amount of money for any reason.
If you’re the least bit interested in the job market or economy, or ever complained that someone should do something about inflation, high prices, the cost of college, or the cost of anything… these last two ideas should unsettle you. When you completely abandon your agreement and responsibility to repay what you agreed, that debt doesn’t go away. It becomes a loss to the financial institution that they need to recover through tax write offs and higher rates and fees to the rest of us when we need to take out a mortgage or car loan.
There are a few ways to handle debt positively. In all cases debt should be used sparingly and with a great deal of responsibility both on the personal level and the national level. This idea is what the Glass-Stegall act tried to reinforce following the market crash of 1929, separating depositors’ funds from investment and speculative activities of the banking industry. ‘Yes, that’s your checking and savings accounts.’ Glass-Stegall was the safety net that Dodd-Frank[ii] repealed in 2010, compounding risk and instability in the investment and trading markets. Dodd-Frank, the legislation that eliminated the safety net, is the ‘moral hazard’ currently under fire now for repeal by the Trump administration. A lack of fiscal responsibility on a grand scale is why our country is currently having so many financial problems.
Only borrow what you can repay in a reasonable amount of time. Just like fighting fire, catching the problem early and dealing with it carefully is the best way handle a debt load that is becoming too difficult to carry or put down.
© 2017 David A. Pandone, All Rights Reserved
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