Monday, October 31, 2011

Young and in Debt

I recently received an email from a reader of A Man Is Not A Plan about a situation so many young people get into during college and afterwards, credit card debt. As my reader, let’s call her Beth, put it, she truly believed that after college she would be RAKING IT IN! After all that was how the world was supposed to work.

For a while that was how the world worked, young people going into law or finance, banking and marketing were being offered fabulous salaries, but the catch here is that credit card debt is NEVER a good thing, no matter how much you earn and that is because, unless you pay off the balance each month you wind up paying so much more for the item you bought.

In an article by Rosemary Carlson, a professor of finance, she gives this example: Let’s look at just one card with a balance of $3,000 and an interest rate of 19%. Let’s assume you must make a minimum payment of 2.5% of the balance each month. That means the minimum payment is $75 per month. Of course, that minimum payment goes down as you pay off the balance, but that assumes you NEVER charge anything else on that card.

If all you ever pay is the minimum payment each month, it will take you 283 months (over 23 years!!) to pay off that $3000 and you will pay an additional amount of $4,729.44 in interest. This is NOT GOOD! And that’s just for one card!

So if Beth has more than one card and continues to charge, getting out of debt is incredibly difficult. Add student loans and a possible mortgage and the debt continues to add up.

Let’s break down Beth’s debt and see what can be done.

$2,500 – Interest rate of 9.99%
$2,300 – interest rate of 9.99%
$ 700 – interest rate of 19.9%
$1,700 – interest rate of 15.9%
$7, 500 – student loans 6.9%
$7, 500 – student loans 9.75%
$300/mo – car loan

Salary $38,000 - $2,200/month after taxes

Beth, if you could dedicate 10% of your income or about $325 per month, you could have your cards paid off in 2 years. If you are really serious, you could take 20% or $650 per month and pay them all off in a year! At $2200 take home, less your car and student loan payment and mortgage payment, that would leave you with 500 dollars per month for all other expenses. You have to decide what you can afford to do. But setting a goal and sticking to it is so very rewarding, and when you start to realize how long it takes to pay back a vacation you couldn’t afford, or a dinner or a new dress that you charged when you didn’t have the money, you may start to become more conscious about how you spend your money. You also may want to consider a part time job dedicated solely to paying off your debt.

The main thing is to make a commitment to yourself that you will think about a purchase before you buy it. If you don’t have the money, you have to learn to walk away and say no. Practicing mindful behavior is a basic tenet of yoga, and this includes thinking about how you spend your money. Your emotional health is tied to your financial health. There are many people completely stressed out by financial issues that affect their work, their marriage, their physical health and other relationships. The time to take control is now. Here is some incentive for paying your debt off sooner rather than later and in larger amounts.

If you only pay $50 per month on each credit card, it will take you 65 months, 58 months, 16 months and 45 months respectively for each of the 4 cards listed, based on the interest rates you stated. The interest payments will be $2000. ( vs. about $600 if you pay your 4 credit cards off in a year.)

If you only pay $25 per month on each credit card it will take 211 months(that’s 17 years plus) , 172 months (14 years +), 38 months and 168 months 14 years, for a total amount of interest of $7475 vs $600 if you pay it off in one year. The banks get rich and you pay double, triple, quadruple, you get the idea.That is a high price to pay for items that you probably didn’t need anyway.

Good Luck, and please keep the questions, comments and situations coming and I will help make sense out of your financial situation.

Note: I really want to hear from you, but because I am a financial planner and what we say and the things we write are highly regulated, I may not be able to fully reply to your comments or questions. I have to submit my responses through my compliance department, so I plan to respond to broad inquiries and comments rather than personal questions. Email