Chapter 13
Credit Card Strategies
In This Chapter
◆ It’s simple: decrease spending and increase payments
◆ Stop using credit cards for daily expenditures
◆ Don’t carry the cards with you
◆ When you need to have a credit card
◆ “Silver bullets” to use in paying off your card
Have you ever watched any movies or TV shows about the armed forces? One of my favorites is the old Richard Gere classic, An Officer and a Gentleman. One of the staples of the boot camp training in that movie is the obstacle course. At the center of that obstacle course is “the wall,” which is this monstrously tall obstacle that most people, until they figure out the trick, can’t seem to get over.
If getting rid of your debt is an obstacle course, then credit cards are your “wall.” They’re right at the center of this thing, and you can’t finish the course until you learn how to get over them. If you can’t lick your credit card debt, it doesn’t matter if you whip your mortgage into shape, outlast your student loans, or pummel your auto loan into submission. Because credit card debt is simultaneously easy and expensive to use, the wall only gets bigger as you put off dealing with it.
Are you ready to deal with your credit card debt? Get pumped up! Get angry! Let’s take a full-speed run at it!
The Trick to Paying Off Credit Cards
Okay, there really is no trick. I just said that to keep you reading. In reality, your credit card balances will only disappear by you paying more on them than what gets added to them each month. Even if you pay off what you spend, your balance will still grow because of the interest charges for the month.
Now I know that seems like commonsense knowledge, but for some reason, most of us can’t put it into action. So let’s break it down into two real simple rules. If you can do these two things, I guarantee that your credit card balances will begin to shrink:
1. Don’t make another purchase on your credit card.
2. Pay an amount greater than the interest charged to the account for each month.
Remember, if all you are doing each month is making the minimum payment on the credit cards, your credit cards will take decades to pay off. Further, if your payment isn’t at least the amount of interest that was charged to your account, you’ll literally never get your credit cards paid off.
When you scan down your credit card transactions, what are the first things you usually see? Chances are, it’s the payments and returns you’ve made. One habit I’ve seen people get into is buying something on a credit card, later returning it, and then taking a cash refund instead of having it credited back to their card. Then, of course, the cash “evaporates.” I know it’s tempting when that clerk asks you if you’d like your refund in cash, but this is the one time I’m encouraging you to whip out your credit card!
Stop Using Your Credit Card for Day-to-Day Expenditures
I’ve talked at length in previous chapters about using a spending plan to free up money (discretionary income) so you can direct it toward your credit card and debt balances. But I haven’t talked much about the first rule of thumb you just learned: don’t make another purchase on your credit card.
That may feel impossible for you. It may seem unrealistic. After all, how else would you pay for something if it weren’t for plastic? Shouldn’t you just try to minimize what you spend on the card?
To be blunt, no, you should not. Continuing to use your credit card comes with a whole host of problems. First and foremost, it allows you to continue being impulsive and rationalizing. Having an “I’ll figure it out later” type of attitude is probably part of what got you into this mess in the first place.
Second, it continues to perpetuate the cycle of you borrowing money, at a ridiculous rate of interest that you may or may not be able to pay off at the end of the month. Remember, this is where your good intentions got you into trouble from the start, Once you’re even slightly behind, your balance begins to grow exponentially.
Keep the Credit Cards out of Your Wallet
So what’s the alternative? Cash. Don’t get me wrong, I don’t think you should be walking around with a roll of hundreds in your pocket or purse. But I mean that you should find a way to limit your spending to the cash you have in your bank account and savings.
For our household, this means that we use debit cards (which take the money immediately out of your bank account) for everything. When that account hits zero, whether it is the 3rd or the 23rd of the month, we’re done spending. We may have to skimp for a week, but we’ll never be playing catch-up with our credit cards.
In fact, I think you need to stop carrying a credit card altogether when you’re just going about your daily life. You have my deepest professional promise that you can survive without it. Generations before you managed to do it, so can you!
In the Red
It only takes one or two times of being hit with an overdraft fee on your debit or ATM card for you to be open to just about any solution. So when the bank offers you overdraft protection for a minimal monthly fee, there’s a good chance you’d take it. Unfortunately, many overdraft protection services turn your debit card into a credit card. When you go below zero in your account, the bank loans you a fixed sum, such as $100 or $250. Aside from the fact that it charges you a fee and interest for the privilege, there’s an additional drawback: you usually end up spending the excess they deposited!
So That Means I Should Cancel All My Credit Cards?
Well, I didn’t quite say that. I said that you should stop carrying credit cards in your wallet or purse. Doing that is going to help you rein in your spending everywhere from the grocery store to the mall. But I do think it is wise to have one credit card, just in case.
A credit card is a necessity if you decide to drive across the country, rent a car, book airfare, visit a foreign country, and for life’s true emergencies. Those situations are examples of moments that you cannot afford to be without one. But again, you need to create some barrier to using it when it’s not one of those times.
In our household, when we were getting out of debt, we froze our credit card into a block of ice. No, really, we did. For years, there was a Styrofoam cup sitting in our freezer, filled with frozen water and a credit card. The only time we got the blow dryer out was for special occasions like travel.
You don’t need to go that far, but you need to find a barrier to use that works for you. Maybe you keep it locked in a drawer, sealed in an envelope, or give it to a trusted family member.
You might want to look into getting a secured credit card. This type of credit card functions very similar to a prepaid gift card, but it is issued by your bank and can be used anywhere major credit cards are accepted. It’s ideal for people who need a credit card, but either need to control their spending or have had their credit card frozen due to debt problems. Quite simply, a secured credit card will only let you spend as much as you have deposited in advance with the issuer. That’s similar to a debit card, but a secured credit card will typically avoid those dreaded overdraft fees while simultaneously helping to rebuild your credit.
Silver Bullets for Reducing Your Credit Card Balances
As I’ve said, the only tried and true way to fully eliminate your credit card balance is to pay as much as you can, while spending as little as possible. However, there are some “silver bullets” you can use to give yourself a head start on eliminating your credit card debt. I call these techniques silver bullets because they’re to be saved for special occasions when you really need them. You may only get to use some of them once before your credit card company tells you exactly what you can do with your request.
A number of these silver bullets come with significant disadvantages, primarily in how they affect your credit score for the next five to seven years. If you think you are going to need to get a loan of any kind in that time period, you’ll want to give serious thought to whether or not these techniques are worth using.
Negotiate a Lower Rate
This is one of the easiest techniques to turbo-charge the process of eliminating your credit card debt. What this technique entails is requesting your credit card company lower the rate of interest that you’re paying on your outstanding balance. The savings can be considerable.
Consider a $10,000 credit card balance with an annual percentage rate of 30%. The interest you’ll pay over the coming 12 months will be in the ballpark of $3,000. If you can somehow get that rate lowered to 15%, you would avoid paying almost $1,500 in interest. That money you save could then be put toward your balance, which would result in a significant decrease!
So how do you get your credit card company to magically lower its interest rates? How do you convince the company that making less money off you is a good idea for them? It’s simple. You just need to convince them that you’ll be taking your “business” elsewhere.
Every credit card company is aware that every other credit card company is trying to steal their clients. Whichever company has the biggest pool of money owed to them by consumers is the one who will likely make the biggest profit. Hence, a lot of effort goes into getting and keeping your business.
Dollars and Sense
Most consumers don’t realize that all those fees you get slapped with are as open to negotiation as the interest rate. Oftentimes, you can even get fees waived in hindsight. When you have the conversation with your credit card company, be sure to mention these as a reason you’re thinking about switching or if you think they were applied unfairly. It only takes a click of a button and a consumer who refuses to give up to erase substantial charges.
You’re probably used to the steady stream of e-mails offering you much cheaper interest rates on your balance if you just transfer it to the XYZ Company. Sometimes, all you need to do is let your existing credit card company know that you’ve seen them.
Here’s how the conversation goes:
You: Hi, I was calling about my account with your company.
Them: Yes, thank you for being a loyal customer and allowing us to pillage your finances for the last 10 years.
You: Yes, well about that. I really like you guys, too, but I got this offer in the mail.
Them: (Silence)
You: They’re offering me 10.99% to transfer my balance to them.
Them: (Silence)
You: So anyway, I like you guys a lot, and I’d love to keep my business with you, but I was hoping you could give me a rate that competes with XYZ Company.
Them: Um … Hold on … Let me talk to my manager …
That’s about all it takes. The worst they can do is say no and then all sit around and laugh at you after you hang up. But, based on my experience with clients, you will get some type of lowered rate almost 50% of the time.
This one is a freebie as far as negative consequences. It doesn’t show up on your credit report and it shouldn’t have any negative effects on your existing account if you get denied.
In fact, I think you can probably ask for it about every 12 months if your rate climbs back up. Remember, the reality is, many companies would rather keep you paying 15% than lose you because you were paying 30%.
Transfer Your Balance to Another Card
A balance transfer is another great way to speed the repayment of your credit cards, because it may reduce your interest for 6 to 12 months, even more than negotiating a lower rate. But this is one of those techniques that can backfire on you if you’re not really careful.
On the upside, transferring your balance may cut your interest rate temporarily from as high as 30% to as low as 0%, sometimes for up to one year. On a $10,000 balance, that means that you might end up paying $3,000 less in interest over the course of 12 months. That’s a lot of money that could be redirected toward eliminating your balances.
The downside, of course, is that you now have a new credit card that you can run amok with. Instead of having one credit card to contend with, you may now have two. There’s twice as much temptation, which can translate into twice as much potential for debt.
Additionally, balance transfers usually come with a one-time transfer fee that can start as low as 1% to 2% and can go as high as 10%. For example, a $10,000 balance transfer might cost anywhere from $100 to $1,000, which is usually added to your new balance.
If you do a balance transfer, consider doing the following:
• Cancel and cut up the credit card you are transferring the balance from.
• Don’t activate the new credit card you receive. That way, even though the balance from your old card is now on the new card, you’re not tempted to start using it to make purchases as well. That’ll help you stick to keeping that one out of your wallet as well.
• Double-check the rules for your balance transfer. Oftentimes the rate automatically increases, and is applied retroactively, if your payment is even a day late.
Use Your Home Equity to Pay It Off
On the surface, this is a great theory. But below the surface, it is one of the main reasons that so many people find themselves in financial quicksand.
The theory is simple. You’ve got a home that is worth more than you owe. You’ve also got a credit card balance that you’d like to see paid off. So you go to the bank and request a home equity line of credit, or HELOC, where the bank loans you money against the net value of your home.
Why would you do this? Don’t you still owe the same amount of money, even though you’ve moved it around? You do, but by shifting your debt from your credit card to your house, you’ve replaced a debt that might have charged you as high as 30% annually, to one that is charging you under 10%. To make it even better, the interest on your home equity line of credit may be deductible on your tax return, whereas your credit card interest is not.
So why might this be a bad idea? It’s what I call the “snake and the cage” problem.
A few years ago, our seven-year-old son badgered us into buying him a corn snake. When I visited the pet store, the clerk asked me, “How large do you want the snake to grow to be?” This was a great question for me, because I’m not a huge fan of snakes. Given the option of having them be smaller than my arm (as opposed to large enough to swallow me), I’ll choose smaller.
The trick, apparently, is to keep the snake in a smaller cage. If you put it in a larger cage, it will slowly grow to fit the cage. If you leave them in the smaller cage, their bodies instinctually stay smaller.
The same thing has been true with home equity loans, credit cards, and runaway real estate prices. Many of us grew as big as our “financial cages.” Your house would go up in value, which would make you feel like you could keep running up the credit cards, paying them off every so often with your home equity. Too bad the real estate market doesn’t go up forever …
Again, as with the balance transfer technique, if you borrow against your house to pay off your credit cards, you need to get rid of the credit cards that you pay off. If you don’t, it’s a matter of time and human nature until you run those things back up and have no more equity in your home to fall back on.
In the Red
Your home isn’t the only long-term asset you can borrow against. Many of the large investment firms and brokerage houses now offer lines of credit against your investment accounts. In fact, many of them give these lines of credit to you automatically when you sign up for their “bells and whistles” cash management accounts. All you have to do is spend below your cash balance, and they’ll automatically loan you money against your stocks, bonds, and mutual funds. The downside is that these are a lot more volatile day to day than the price of your house. This could force you to pony up funds on the spot if your investments go down in value too quickly. If you can, avoid these accounts like the plague!
Consider Balance Reduction and Debt Settlement
Credit card companies aren’t as stubborn as you’d imagine. If anything, they’re quite greedy, and that can work to your advantage if you’re in over your head. While their preference is for you to faithfully carry a balance and pay interest on it, they also have a major fear of you completely walking away from your debts.
When credit card companies truly believe that you’re on the verge of bankruptcy, they’re usually happy to take whatever they can get from you before you disappear or declare bankruptcy. In other words, if they can get half of what you owe them now, as opposed to nothing later, they’ll often take the half.
But don’t just think you can call them up and offer to settle your debt for 50¢ on the dollar. Usually, credit card companies won’t even consider a balance reduction unless you can prove that you’re really in trouble. For many credit card issuers, that proof comes in the form of two to three months worth of missed (not late) payments, pending bankruptcy paperwork, or verification of unemployment.
To start this process in motion, you’ll need to do the following:
1. Speak to the Settlement Department. While every credit card company might have a different name for this department, any customer service person will know exactly what you’re talking about.
2. Show no fear. Really, this is one of the keys to settling a debt. The credit card company will only settle if they perceive you as truly unable to pay. To them, that doesn’t look like someone who is stressed and begging for a break. It actually looks like someone who doesn’t give a darn, and is making a last ditch effort before they go to bankruptcy.
3. Give them a low-ball offer. Your credit card company knows it’s probably not the only one, and that you are making offers elsewhere. With that in mind, it’ll try and get its hands on just a little more of that sweet cash by getting you to compromise. Start with 10% to 20% on the dollar, and negotiate from there.
4. Negotiate some confidentiality. Everything is open to negotiation. As part of accepting its compromise, ask to keep the debt negotiation off your credit report and report the account closed at your request (not theirs).
5. Get everything in writing and save it all! Credit card companies and collection agencies are notorious for saying whatever they can to get you to send in some money. Then, as soon as they get it, they keep asking for more. Make sure you have written correspondence (not an e-mail) agreeing to completely release you from the debt if a certain payment is made.
6. Pay them—anonymously. One of the classic mistakes you can make is sending a check from your personal bank account. Guess what info you just gave them? That’s right, your bank account number. You just made it much easier for a collections department to go after your cash. Instead, send a cashier’s check or money order by registered mail.
Dollars and Sense
How do you think it looks if you call and ask for a balance reduction, and the customer service person reviews your account history only to find recent visits to the spa, five-star restaurants, and the swankiest stores in the mall? They probably think you’re living a better life than they are. Your best bet is to completely cut your high-dollar spending for about six months before you’re daring enough to ask someone to forget about the debts you owe them.
Consolidate Your Credit Cards
We’ve all seen the commercials. Heck, even my kids have seen them. My seven-year-old can tell you that “if you’re feeling stressed out by your bills, you can just call ACME Company, who will help you to combine everything into one low payment!”
On the surface, this may sound like a great idea. But there are some definite drawbacks that I’ll talk about in Chapter 17. Suffice it to say that to get into this kind of program, you end up selling your financial soul. In one way or another, you’re going to pay for the privilege of having your credit cards consolidated to a single payment.
Here are some important questions to ask before your open up your finances to a consolidation company. Even better, try to get these answers in writing:
• What is my effective interest rate? Many companies will simultaneously lower your monthly payment and raise your interest rate. They do this by extending the length of your loan, allowing you to pay less each month, but over a much longer period of time.
• What fees are involved? Just like a balance transfer, a debt consolidation can have substantial fees associated with setting it up or maintaining a program. Considering that surprise fees are the biggest complaint filed against debt consolidation programs, make sure you read the fine print.
• Can my interest rate change for any reason? If it can, you need to figure out the formula. Again, the best consolidation companies will give you one fixed rate for the life of your loan.
• Are there prepayment penalties? Avoid companies that will penalize you if you pay off your consolidated debt sooner than planned. A prepayment penalty is a definite red flag that a company is going to try to squeeze as much profit as possible out of you.
• Can you sell my consolidated loan? Oftentimes, a consumer’s loan will get sold by a nice company to a not-so-nice company. Then everything changes. The interest rates go up, the harassing phone calls start again, and you’re right back where you started.
• How will this consolidation affect my credit score? Different companies have different policies on what, how, and when they report to the credit bureaus. Find out your company’s reporting policy for late payments, early payoffs, etc.
Debt in America
Peer-to-peer lending networks are one of the hottest trends in debt consolidation. Instead of borrowing money from some fly-by-night operation, you can go through a number of websites that match up private borrowers and lenders. Through companies such as Prosper and The Lending Club, hundreds of thousands of individuals with extra money are able to loan it to other individuals at competitive rates with minimal fees.
Use Your Credit Insurance
Credit insurance is one of my big pet peeves in life. There are few things that waste more money for the average person than insurance that promises to pay off your credit card if you die. They sell it to you because most of the time, they’ll never have to pay on it.
As the economy continued to expand beyond reason in the last decade, and unemployment sank to nearly all-time lows, credit card companies began to expand this coverage to unemployment. In other words, if you get laid off and can’t find a new job, the credit card company will cover your minimum monthly payments.
While most people who know better passed on these policies, they were still unscrupulously added to many credit card accounts by overly ambitious telemarketers. Go back and check your statements for a mysterious and regular recurring charge, usually about $10 to $20 per month. If it’s there, whether you chose it or not, it’s time to cash in on it.
Call your company and ask where you can get a copy of the fine print of that insurance policy. Then grab a cup of coffee and a highlighter, and go through and see if it’s supposed to cover your payments for one reason or another.
The Least You Need to Know
• There are only two true ingredients to eliminate credit card debt: stop using the card and pay an amount greater than the interest charged to the account for each month.
• It’s a good idea to retain one credit card for special circumstances such as travel or emergencies.
• Attempting to negotiate your interest rates and fees is a must for all of your credit cards.
• Be careful with balance transfers, because new accounts create the opportunity to dig yourself even deeper in debt.
• Make sure you ask thorough questions and do your research before you sign up with a debt consolidation or settlement company.
• Check to see if you purchased credit insurance that protects against loss of employment or financial hardship.
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