How to Control Debt

Past Due

 

Does “good debt vs bad debt” exist? Bad debt charges an interest on items that depreciate, while good debt has a return on investment. Using a credit card for a consumable item like buying clothes, going out to eat, or a loan for a car that depreciates in value is bad debt. Good debt would be used for education, a business, a home that increases or anything that adds future is good debt.

Good debts can turn bad. How many college graduates have debts that outweigh their earnings? Have you heard about law students suing their schools because the debt was much higher than their potential earnings or older students getting a degree and not getting a job because of age bias? I am one of those older students, I have educational debt I thought was a good debt because it would pay myself back with a higher paying job. Sometimes investing in yourself doesn’t pay off the way you hope it will. Be cautious when taking on debt. Understand debt and how it can hurt or help.

Unsecured vs Secured debt

For unsecured loans interests rates can be over 30%. For 2020 and 2021, I have seen the average around 13% -15%.

When interest rates for unsecured loans are higher than the average return on a Standard and Poor’s investment averaging around 10% a year, it’s hard to justify the loan unless it is paid off each month before the interest is charged.

Secured loans have lower interest rates because if the loans aren’t paid, the lending institution can repossess the vehicle or foreclose on the home. The loan on my vehicle was 4%, my home 3%.

How interest rates are determined

We know if we have a low credit score, we will pay a higher interest rate. If our score is high, we will pay a lower interest rate. Low credit score doesn’t mean you don’t pay on time you can be 100% paid, but if you have a lot of loans outstanding that are maxed out or not a variety of loans between a car, house, or revolving credit, such as a credit card, that can also be a factor on a low credit score.

In the United States initial interest rates are determined by the Federal Reserve bank since the United States has a centralized banking system.

Rates are determined based on the state of the economy. If the economy is flat or consumers aren’t spending, then the Federal Reserve lowers the interest rates to encourage spending and boost the economy. If everyone is spending and the Federal Reserve is concerned about out-of-control inflation, it increases the interest rate.

When interest rates are low the dollar is devalued, and imports are more expensive to purchase. On the flip side when the dollar is low, United States products are cheaper to for foreign countries to buy. The reverse is true when interest rates are high.

The prime rate is the best rate given to the best customers or when banks lend to each other overnight.

how money, banking, and credit is manipulated and who can benefit?

I had a “Money, Banking, and Credit” class as part of my finance major. I was shocked about how money could be manipulated; Overwhelmed at what I was learning during class, I rose my hand and asked a laughable question. “Does anybody here realize we are learning how to capitalize on money for our benefit?” The look from the students faces was priceless. “Is she an idiot? Uhm yeah, that’s why we are learning finance, so we can learn how to make the big bucks and get paid to manipulate money, credit, and loans then capitalize on it.” The class moved on and I realized that they didn’t understand my point. EVERYONE SHOULD KNOW THIS. This should be taught in high school. It’s not difficult. I was bothered that this knowledge could be used at the expense of others.

Burden of DebtLending institutions benefit from debt. A simple explanation of a checking account with a bank. In the eyes of the bank, you are not only their customer, but you are also their creditor. The more money you have in your account the more money the bank can lend out. Therefore, you can earn more interest on your account depending on what kind of account you have. It is also why there are minimum balances on certain accounts. If you fall below the minimum, you will get charged. For most banks the interest you earn is minimal to the interest they charge on a loan.

When opening bank accounts/credit unions/investment banks/brokerage firms, check their fees and interest rates. See if the institution you are banking with offers “sweep accounts” This is an account that automatically transfers your funds at the end of each business day into a higher earning investment like a money market fund. It is a way to manipulate money to a more favorable position. It also curbs some inflation loss.

Debt can be used to create wealth. Businesses purchase machinery to decrease time on servicing or producing products. Financial analysts of large corporations use formulas to determine if the loan or debt would produce a high enough return. Will the return on that purchase be greater than the cost, when accounting for interest, amortization, and depreciation? If the financial analysts’ numbers indicate that it would increase the profits, then the item is purchased.

Investors can make money on debt, but at a higher risk of loss and it should only be done by savvy investors that know what they are doing. I will talk more about that in another blog.

You are going to use algebra after high school

Understanding algebra, probability and statistics and some business calculus can be very beneficial when trying to manipulate things in your favor. Remember the comments in high school, “when will I ever use algebra?” The reason for this comment was students not understanding what “x” means. I was one of those students. I was ecstatic if I got a “C” on a math test. Most of my grades in math were D’s. When I went to college later in life, I chose finance as my major, a math heavy major and had to start in remedial math classes. By the time I got to business calculus I got a 98%. Curious as to why there was a difference in my math ability, my teacher said, “When you were in high school, you didn’t see the application for it. Now you see the application for it.”

Every time you buy a car, purchase a home, use a credit card to make purchases and the money is borrowed you are using algebra.

I will give the simplest example of how algebra is used every day.

If I have 4 apples, but I need 9 apples, how many more apples do I need?

4 +? = 9, instead of using a “?” we use an “X”

4 + X = 9 So, it looks like this:

X = 9 – 4, so X = 5, I need 5 more apples.

If you aren’t good at math, learn to get better. Take math classes. Learning the basics of algebra and probability and statistics will help you determine whether you should accept the loan or if there would be a way to use debt to your advantage.

If you have a high interest rate credit card, don’t purchase anything you can’t pay off at the end of the month. If it is a school loan be careful about whether the debt for education will return to a higher paying job. Be careful about consolidating your school loans with a private company. The interest will no longer be tax deductible. With government loans you can write off the interest rates when filing your taxes.

Are there ways to have education pay for itself through scholarships or paid training? I had some of my finance education paid for through scholarships and I have a CDL B license. The cost for training for a CDL B license is a few thousand dollars, but because there was a shortage in the industry, I got paid while training to become a driver. When buying a home, consider the market and interest rates. Different strategies for different markets.

Be careful of interest free loans. The monthly payment is often not enough to pay for the loan in its entirety. My mother needed $4500 dollars for dental work, she qualified for a loan but didn’t want to borrow the money. The loan would be interest free for 12 months. If it wasn’t paid off within the 12 months, she would have to pay the 20+% interest. Leaving a balance at the end of 12 months is calculated on the initial loan amount of $4500 and not the balance.

If my mom took advantage of that high interest loan and invested the $4500, it could earn an interest while making the loan payments from her monthly social security check. Essentially lowering the cost of the dental work by recovering some of the loss.

Be fearful of the guru that is selling you a product or service. Comments like you are investing in you or your business or “it takes money to make money.” Their interest is not you or your business, it is making money form you on their business. Most of the time what they are selling is overpriced. Going to college and learning from professors would be cheaper than what some of these guru’s charge. They make everyone believe that they can be rich and successful just like them. Building up hopes and dreams. The amount of money these gurus claim you can earn, would put you in the top 1% of the population and for some reason with their tactics everyone in America could be rich if they learn their methods.