Debt and Credit The Pros and Cons of using (or abusing) credit

Some basic concepts: Equity : aka Loan to Value ratio: difference between value and amount owed Debt to Income Ratio : Total of minimum payments divided by gross income Example: $4000 monthly gross income with a $1400 mortgage, $300 car payment, and $50 credit card minimum=$1750 or 43.75% DTI "Healthy" range is 30-40%, max usually 45-50% Credit Score : aka FICO: how a lender sees you, based on: payment history debt to credit percentage: available credit vs. balance owed collections, bankruptcies, etc.

Equity : aka Loan to Value ratio: difference between value and amount owed

Debt to Income Ratio : Total of minimum payments divided by gross income

Example: $4000 monthly gross income with a $1400 mortgage, $300 car payment, and $50 credit card minimum=$1750 or 43.75% DTI

"Healthy" range is 30-40%, max usually 45-50%

Credit Score : aka FICO: how a lender sees you, based on:

payment history

debt to credit percentage: available credit vs. balance owed

collections, bankruptcies, etc.

Pro: Building Equity Rent money goes to the landlord, but mortgage payments go to your equity ownership Equity means that when you sell or refinance, you have a cash value in your home BUT: Equity can be abused: Refinancing and taking the cash value out for other purchases keeps you perpetually in debt Constantly upsizing: using the equity to purchase a more expensive home and remaining in debt The total cost of principal and interest is exponential A $240,000 mortgage at 5% will cost you $411,278 over 30 years

Rent money goes to the landlord, but mortgage payments go to your equity ownership

Equity means that when you sell or refinance, you have a cash value in your home

BUT:

Equity can be abused:

Refinancing and taking the cash value out for other purchases keeps you perpetually in debt

Constantly upsizing: using the equity to purchase a more expensive home and remaining in debt

The total cost of principal and interest is exponential

A $240,000 mortgage at 5% will cost you $411,278 over 30 years

Pro: Investing for the future Value of education The average increase in lifetime income for a bachelor's degree is over $300,000, another $180,000 over that if you have a master's degree BUT: The degree might not help if you are in the liberal arts fields The financial position you are in at the end of school could cause more harm than the expected increase in income can help: Example: a new worker with 7 yrs of schooling and an 85% debt to income ratio who was forced into credit counseling What would it look like if we decided as a community and country that education should not be paid for with loans?

Value of education

The average increase in lifetime income for a bachelor's degree is over $300,000, another $180,000 over that if you have a master's degree

BUT:

The degree might not help if you are in the liberal arts fields

The financial position you are in at the end of school could cause more harm than the expected increase in income can help:

Example: a new worker with 7 yrs of schooling and an 85% debt to income ratio who was forced into credit counseling

What would it look like if we decided as a community and country that education should not be paid for with loans?

Pro and Con: Business Loans Using capital to invest in growth: new products, innovations Creates jobs and possibility for future profits Most economic growth comes from small businesses BUT: There is a lot of risk in business loans: competitors, economic troubles, patents and permits More small businesses fold then succeed in the first few years Small business owners many times end up in personal financial trouble because of their business ventures What if we focused on slower, more sustainable economic growth instead?

Using capital to invest in growth: new products, innovations

Creates jobs and possibility for future profits

Most economic growth comes from small businesses

BUT:

There is a lot of risk in business loans: competitors, economic troubles, patents and permits

More small businesses fold then succeed in the first few years

Small business owners many times end up in personal financial trouble because of their business ventures

What if we focused on slower, more sustainable economic growth instead?

Con: Being held hostage to your debt vs. living in freedom Fear of layoffs and job changes Ability to respond to God's call Supporting others Mobility: not upward, but outward What is more valuable: money or time?

Fear of layoffs and job changes

Ability to respond to God's call

Supporting others

Mobility: not upward, but outward

What is more valuable: money or time?

Biblical Perspective on Debt and Credit Romans 13:8: Let no debt remain outstanding, except the continuing debt to love one another, for he who loves his fellowman has fulfilled the law. Typically used to argue that all debt is sinful Context is related to paying taxes and fulfilling the law Warnings on being in debt: Proverbs 22 7: The rich rule over the poor, and the borrower is servant to the lender. 26-27: Do not be a man who strikes hands in pledge or puts up security for debts; if you lack the means to pay, your very bed will be snatched from under you.

Romans 13:8: Let no debt remain outstanding, except the continuing debt to love one another, for he who loves his fellowman has fulfilled the law.

Typically used to argue that all debt is sinful

Context is related to paying taxes and fulfilling the law

Warnings on being in debt:

Proverbs 22

7: The rich rule over the poor, and the borrower is servant to the lender.

26-27: Do not be a man who strikes hands in pledge or puts up security for debts;

if you lack the means to pay, your very bed will be snatched from under you.

Biblical Perspective on Debt and Credit Taking advantage of others through lending prohibited : Deuteronomy 23:19-20 Do not charge your brother interest, whether on money or food or anything else that may earn interest. You may charge a foreigner interest, but not a brother Israelite, so that the LORD your God may bless you in everything you put your hand to in the land you are entering to possess. Ezekiel 18:16-17 He does not oppress anyone or require a pledge for a loan. He does not commit robbery but gives his food to the hungry and provides clothing for the naked. He withholds his hand from sin and takes no usury or excessive interest.

Taking advantage of others through lending prohibited :

Deuteronomy 23:19-20

Do not charge your brother interest, whether on money or food or anything else that may earn interest. You may charge a foreigner interest, but not a brother Israelite, so that the LORD your God may bless you in everything you put your hand to in the land you are entering to possess.

Ezekiel 18:16-17

He does not oppress anyone or require a pledge for a loan. He does not commit robbery but gives his food to the hungry and provides clothing for the naked. He withholds his hand from sin and takes no usury or excessive interest.

Biblical Perspective on Debt and Credit The Year of Jubilee: Lev. 25, Deut. 15 A comprehensive economic system that began with the distribution to the twelve tribes Returns property to original owners and cancels debts Price controls based on number of years until Jubilee Ownership stays with families over generations Prevents the rich from taking advantage of the poor How could the principles of Jubilee translate to our modern economics?

The Year of Jubilee: Lev. 25, Deut. 15

A comprehensive economic system that began with the distribution to the twelve tribes

Returns property to original owners and cancels debts

Price controls based on number of years until Jubilee

Ownership stays with families over generations

Prevents the rich from taking advantage of the poor

How could the principles of Jubilee translate to our modern economics?

Biblical Perspective on Debt and Credit Jesus' perspectives on debt: Uses parables involving debt and lenders Never calls debt or lending 'sin' But Matt 6:24 reminds us that you cannot serve God and mammon-how does that principle apply to the use of credit?

Jesus' perspectives on debt:

Uses parables involving debt and lenders

Never calls debt or lending 'sin'

But Matt 6:24 reminds us that you cannot serve God and mammon-how does that principle apply to the use of credit?

Getting Out of Debt

Basic Principles Start with a budget to get current spending under control Set manageable goals Have someone who keeps you accountable to your budget Review your progress and readjust as necessary Celebrate small achievements

Start with a budget to get current spending under control

Set manageable goals

Have someone who keeps you accountable to your budget

Review your progress and readjust as necessary

Celebrate small achievements

Popular Methods "Laddering" Payoff highest rate debt first Saves you money by reducing overall interest rate Example: car loan at 6%, $300 payment student loan at 4%, $100 payment credit card at 12%, $25 payment credit card at 21%, $50 payment You would pay the minimums on all, but pay extra on #4 until it is at zero, then pay extra on #3, then on #1, then on #2 Promoted by Suze Orman, Clark Howard

"Laddering"

Payoff highest rate debt first

Saves you money by reducing overall interest rate

Example:

car loan at 6%, $300 payment

student loan at 4%, $100 payment

credit card at 12%, $25 payment

credit card at 21%, $50 payment

You would pay the minimums on all, but pay extra on #4 until it is at zero, then pay extra on #3, then on #1, then on #2

Promoted by Suze Orman, Clark Howard

Popular Methods "Snowball Effect" Payoff smallest balance first Gives you small victories along the way Increases the amount you are able to payoff each month Example: $10,000 car loan at 6% $14,000 student loan at 4% $1,000 credit card at 12% $3,000 credit card at 21% You would pay the minimums on all, but pay extra on #3 until it is at zero, then pay extra on #4, then on #1, then on #2 Promoted by Dave Ramsey

"Snowball Effect"

Payoff smallest balance first

Gives you small victories along the way

Increases the amount you are able to payoff each month

Example:

$10,000 car loan at 6%

$14,000 student loan at 4%

$1,000 credit card at 12%

$3,000 credit card at 21%

You would pay the minimums on all, but pay extra on #3 until

it is at zero, then pay extra on #4, then on #1, then on #2

Promoted by Dave Ramsey

Once you are out of debt, don't go back! Keeping debt off is like keeping weight off- it takes a long term commitment Only have 1 credit card and pay it off every month Be creative in your financing: buy used, barter, or trade Plan for major purchases-don't buy on impulse Have an emergency savings fund for unexpected expenses

Keeping debt off is like keeping weight off- it takes a long term commitment

Only have 1 credit card and pay it off every month

Be creative in your financing: buy used, barter, or trade

Plan for major purchases-don't buy on impulse

Have an emergency savings fund for unexpected expenses