Learning to Live Without Consumer Debt
The new macho is paying cash. It says that you’re
flush enough not to take plastic seriously.
Why do you need a fistful of credit cards? They’re heavy. They make your wallet bulge. They cost money. You can’t remember how much you’ve charged on them. Now that even the hoi polloi carry platinum, prestige lies in flashing a plain-vanilla card. For an even bigger thrill, pay cash.
As a status symbol, the fancy credit card is finished. It’s now just a transactions workhorse and having too many of them says that you’re dumb. Assuming, as I do, that you want to get out of debt and build some savings, plastic ought to serve a single purpose: convenience. You put it down instead of writing a check or paying cash. At the end of the month, you pay the bill. The whole bill.
Not that you’re perfect. You’ll still stretch the occasional bill over two or three months—maybe during holiday seasons or after a vacation. But your goal is to never charge more than you can easily repay. In a slowdown economy, savings are more important than ever.
It’s so simple that I’m almost embarrassed to mention it: Don’t borrow anymore.
That’s all there is to it.
Say to yourself, “Today I am not going to put down a credit card for anything.” When you buy something, pay cash, use a debit card, or write a check.
Tomorrow say the same thing: “I am not going to put down a credit card for anything. I am not even going to borrow ten dollars from a friend.” Take it slowly, one day at a time. It’s like stopping smoking. You’ll be nervous at first; you won’t see how it’s possible to live; you’ll suffer relapses and sneak a new debt or two. But when you get up every morning, renew your pledge. To make it easier, quit carrying credit cards.
I hear you saying, “I can’t get along without a credit card!” Of course you can—at least, most of the time. You can pay by check or debit card. You can buy your Starbucks with cash (they still take it, you know). You may have to show a credit card to rent a car. But when you bring the car back, pay the bill by debit card or personal check.
If you object that you can’t pay by debit card or check because you don’t have enough money in the bank, you’re missing my point. When you don’t have the money in the bank, don’t buy. If you find that you have to put down plastic, use an American Express green, gold, or platinum card. They’re not credit cards, meaning that you can’t stretch out payments. You have to pay your bill in full by the end of the month. (Okay, there’s an annual fee for using these cards, but when you need discipline, Amex is it.)
Once you stop using credit cards, three things will happen:
1. You will buy less—and whatever you do buy will probably be a less expensive model or make. Studies have found that people spend more when they pay with plastic because it doesn’t feel like real money. When it is real money, you’re more sensible.
2. Your total debt will shrink rapidly. By paying off back bills and not adding new ones, you leave yourself pots of extra money to apply to debt reduction. You’re also paying less interest, a big saving right there.
3. You will grow incredibly smug. You’re the first on your block to get out of debt. Others will follow, but you’ll be the first.
I’m not against credit cards. They’re easy to use. They’re handy. If your card has no annual fee and a 20-day interest-free grace period for paying your bills, you’re getting free monthly loans. What I’m against is buying more on your credit cards than you can pay for at the end of the month.
Once you’ve fought your way out of debt, you can start using credit cards again, but only for the convenience of not carrying cash. Your days of debt are done. A big expense may sometimes drive you over the limit. A flat-screen TV. A llama. A hot-air balloon. Whenever you limp home back in debt, recite your mantra: “From now on, I’m not going to put down a credit card for anything.” Stick with it until you’re free again.
Haphazard repayment—the minimum on this card, an extra $100 on that one—progresses so slowly that you’ll get discouraged. After a few months, you might give up. What you need is a total debt repayment plan, and here it is:
1. List each of your loans: how much you owe (most people don’t know), how much you’re paying every month, and any fees. Total it up.
2. Restructure your debt to reduce the interest cost. You might apply for a card that offers zero interest on transferred balances for the next 12 months (most cards charge a 3 percent balance transfer fee; look for an offer with no fee or a fee capped at $50 or $75). Use that grace period to pay off the debt. Just be sure that once the zero-rate period passes, your new card will carry the same, or a lower, interest rate than you’re being charged now.
Alternatively, consolidate your consumer loans on a low-rate credit union loan or home equity line of credit. This works only if you’ve brought your spending under control. If not, you’ll run up the debt on your credit cards all over again, giving you double the consumer debt you had before. Compulsive spenders should not consolidate their loans. It just digs them into a deeper hole. If you borrow anyway, draw up a plan to repay the debt in three to five years.
If mortgage interest rates have dropped, consider refinancing the mortgage and taking a large enough loan to repay your consumer debt. Important: use the money you’re saving on interest costs to make extra mortgage payments, to reduce the total amount you owe! Otherwise you’re merely stretching out the cost of your sweaters, iPods, and gas grills over 30 years—not a good strategy at all.
It doesn’t hurt to ask your current lender to lower your interest rate—saying that otherwise you’ll give up the card. It’s a long shot, but sometimes you might catch a break.
3. Make one-shot reductions in your loan balances. You might run a yard sale and use all the proceeds to pay off debt. Or sell off a few shares of stock you inherited. Or use your savings, if you have any. It’s smarter to chop debt than to hoard a low-rate savings account. (But keep on adding to your retirement account because those contributions lower your tax.)
4. Increase your monthly debt reduction budget, even if it’s only by a small amount. Small amounts make an enormous difference. Say that you owe $8,000 at 18 percent interest, on which you’re paying the bare minimum: 2.5 percent of the balance each month. You start out at $200 a month and pay a little less money in each subsequent month (that’s because you’re paying 2.5 percent of a declining balance). On this schedule, it will take 30 years to get out of debt! Now let’s say that you pay a fixed $200 each month. That will get you out of debt in just over five years, saving an enormous $7,306.34 in interest. If you added just $50 a month—paying $250 each time—you’d be debt free in less than four years and save $8,634.87 in interest. (A lot of people find these calculations, and others like them, too astonishing to be true. But they are true. Honest. Check it at Bankrate.com’s calculator called “The True Cost of Paying the Minimum.”)
5. Keep on paying the same amount each month, even though your loan balance goes down. The faster you pay off principal, the more interest you save and the faster your total debt declines. Once you’ve erased the highest-rate loan, start on the next highest—still paying the same fixed amount (or more!).
6. Pay the monthly minimums on your lower-rate loans while putting the rest of your available money toward the highest-rate loan. The size of the loan doesn’t matter, only the size of the interest rate. The faster you knock off high-rate debt, the faster your burden will decline.
7. Work your way down the list, debt by debt. To keep yourself motivated, you have to take satisfaction from the process. Post your payment schedule on the refrigerator and check each one off. Or give yourself a quarterly reward for staying on the wagon.
8. If you wiped out your credit card debt by taking a home equity loan, don’t imagine that you’re home free. You’ve just transferred your debt from one piece of paper to another. Pay off your new home equity loan on the same schedule you’d have used to pay off your credit cards (use the Bankrate.com calculator to figure it out). You’ll be out of debt even faster because this loan carries a lower interest rate.
9. Don’t pay big bucks to get rid of debt. Tons of “debt elimination” services lure you by Web, mail, and phone. They’re costly (just another debt) and may not do the job. For most of us, repaying loans doesn’t require expert advice, just a simple, methodical program like the one outlined above. If you can’t repay all your debts, set up a program through a dependable consumer credit counseling agency (page 288).
Visa, MasterCard, Discover, and American Express Blue and Optima are credit cards. You can charge up to a certain limit and carry most of the debt forward from one month to the next. Interest is levied on the unpaid balance.
No central organization sets the interest rates and charges on MasterCard and Visa cards. Each issuing bank determines its own, so costs vary widely. There are wonderful cards and rotten cards, depending on the deal.
Department store cards are credit cards too, but they usually have a lower credit limit and a higher interest rate. It usually pays to use your bank card instead of the store’s card unless the store offers discounts to frequent shoppers. When you shop, you may be offered 10 percent off on that day’s purchases if you’ll apply for a store card. Don’t do it unless you’ll really use it.
American Express’s classic Green, Gold, and Platinum cards and Diners Club are charge cards. You pay the full bill at the end of each month, although some credit is allowed. For example, you can stretch out payments on airline tickets or other big-ticket items charged to American Express. Unlike most credit cards, charge cards carry annual fees.
The best cards charge no annual fee and offer low interest rates to people who carry debt. My general advice is to own just two cards: (1) a convenience card, for bills that you’ll cover by the end of the month. Buy all perishables, such as restaurant meals and gasoline, with this card, as well as all other items you know you can pay for immediately; (2) a low-interest card, for major purchases that will take several months to pay for. Charge only items that will last a long time, because those are the only ones worth paying interest for.
The trouble is, that advice is too simple. Low-rate cards can turn into high-rate nightmares if you’re just one day late in paying your bill. What matters nowadays is how you handle your card—do you keep its up-front, honeymoon terms, or will you fall into one of the costly traps that the banks lay for you?
Card companies play around with interest rates today. You think you’ve signed up for one rate—in fact, you’ve got it in your budget—when suddenly you’re charged more. That’s another reason to avoid consumer debt. It almost always turns out to be more expensive than you thought. In 2009, President Barack Obama signed the Credit Card Accountability Responsibility and Disclosure Act (Credit CARD Act), which eliminates some of the abusive practices. Unfortunately, it applies only to purchases made in February 2010 or later, so consumers with older debt can still be taken advantage of. What’s more, plenty of bad practices remain. Here’s what to watch out for:
“Fixed” interest rates. “Fixed,” my grandmother’s left foot! When you sign up for this card, you assume your rate won’t change. That makes you just the kind of sucke—um, customer—the bank wants. In the fine print, you’ll find a statement saying that the bank can change rates, fees, and other terms whenever it wants and for any reason. And be assured, it will. Starting July 1, 2010, the fine print has to specify how long this so-called fixed rate will last.
Variable interest rates. The majority of cards today charge variable interest rates on your revolving balances. Variable means that the rate changes in line with market interest rates. Typically, you pay a certain number of percentage points over the bank’s prime rate (the prime is the benchmark lending rate). For example, you might pay prime plus 5.99 points. If the prime is at 8.25 percent, your card will charge 14.24 percent; if the prime rises to 10 percent, your card will charge 15.99 percent. If the prime rate drops, your rate should too—although there’s a floor below which it’s not allowed to go.
Generally speaking, applicants with impeccable credit histories can get no-fee cards charging 2 or 3 percentage points over prime. A decent history gets you 5 or 6 points over prime. Anyone with a heartbeat and a mailbox can get a card charging 8 percent or more over prime. The bank can change these point spreads whenever it wants.
When the prime changes, the bank won’t necessarily change your interest rate right away. Some change rates monthly, others change them quarterly. The bank might also pick the highest rate during any 90-day period, which extracts extra dollars from its customers. It’s all there in the fine print.
Teaser rates. These are the superlow rates that card issuers dangle when they’re trying to sign you up. They last no longer than a few months, then jump to the standard rate. Sometimes they cover only balances transferred from another card, not new purchases. When you’re choosing a card, the standard rate is the one to evaluate, as well as the possible default rate (see below). Your best long-term bet: a low-rate card, even if it lacks a spiffy introductory offer.
Mystery rates. Practically all cards today are actually offering mystery rates, not the interest rate you see in the ad. The bank may trumpet that a rate is “as low as” 7.9 percent. But that’s only for applicants with top credit scores (page 266). When you receive your card, you may find that you’ll be charged a much higher rate. The gyp is that you can’t find out until you apply, which makes it impossible to compare the true interest rates available to you in the marketplace. This is totally unfair. In fact, banks may deliberately market to people with poorer scores—dangling a low rate but knowing that applicants will be issued only high-rate cards (they call this practice downselling). Your credit limit also might be lower than you expected (page 255).
Default or “penalty” rates. These also give the lie to the low rates that you see in ads. Every card has a default rate that it charges people who make mistakes. Were you one day late in paying your bill? Your interest rate might rise. Were you one day late a second time? It will jump again. Did you accidentally charge more than your credit limit? Up the rate goes. Ditto if you pay the bill with a check that bounces. Did you take a new card because it offered you zero interest on your debt for the first 12 months? A late payment will bounce your zero rate up to the card’s high rate on cash advances—and higher if you misbehave again. Even worse, the rate will be charged retroactively, from the time you got the card.
Penalty interest rates are running anywhere from 23 percent to 41 percent, with no end in sight. (They’re disclosed in the fine print; check “Terms and Conditions” or “Pricing and Terms” if you’re card hunting on the Web.) It’s cheaper to borrow from the Mob. Starting in February 2010 penalty rates can be charged only on new purchases, not on older purchases that you’re carrying on your card. That is, unless your payment is more than 60 days late. In that case, the bank can charge the high default rate on your older purchases, too.
Also starting in 2010, banks have to cancel any new penalty rate added to your card if you’ve made on-time payments for six consecutive months—so be sure to do it!
While you’re paying penalty rates, charge nothing more. Concentrate on reducing your debt. If you can, find a card that offers you a better deal.
Reminder: if you pay late or go over the credit limit, there is also a fee. So you’re hit twice.
Residual interest. Never heard of this? Neither had I until a reader questioned the math on his credit card statement. He had been carrying a balance and, in February, paid it in full (he thought!). In March he found an additional and unexpected charge on his card. It turns out that the interest clock had kept running from the time he paid the bill until the time the payment was credited to his account—in his case, seven days more. That’s residual interest, another cheat. Not all banks charge it (check the fine print in the credit card agreement). To avoid it, you have to call the bank and ask how much you’ll owe, say, seven days from now, and pay that amount, not the lower amount shown on your bill.
Daily compounding. Banks used to compound the interest on credit cards monthly; now most of them do it daily, which costs you more.
Higher rates on cash advances. You’re charged 23 percent or more for drawing on your credit card for cash.
Why do so many banks offer cards with no annual fee? Because they know that you’ll look at that cost before signing up. By dropping it to zero, they make the card appear “free.” In fact, they’ll be charging you even higher fees, in ways that you might not notice until too late. A sampling:
Late fees. Pay just one day late, and you might be charged anywhere from $15 to $39 (with $49 on the horizon). Your interest rate might go up too (see above). At many banks, cardholders with small balances pay more than those with large balances. (Some banks now offer to send payments to your creditors overnight, for a fee that’s less than the late charge would be.)
Over-limit fees. Every card carries a credit limit. That’s the total amount of money you’re allowed to charge. In the past, the banks cheerfully let you exceed your limit and hit you with a $29 to $39 fee each time. They also used over-limit mistakes as an excuse to charge you a penalty interest rate. You had to pay.
On new accounts, however, you have a choice. You can’t be charged over-limit fees unless you agree to accept them. Some banks are dropping the fees. Others might urge you to accept, so they can keep mining you for profits. The fee will be sold as an over-limit “protection” plan. My advice: Just say no. You’ll save yourself fees and the risk of incurring a high penalty interest rate. If you try to buy something that exceeds your limit, the transaction probably won’t go through, but so what? You should always carry at least one credit card with lots of charging power. If the first card won’t work, use the second one. Having credit limits is a wonderful discipline. They motivate you to keep a closer eye on what you spend.
Balance transfer fees. When you transfer a balance, you’re typically charged 3 percent of the amount (with many banks at 5 percent). That’s $300 to $500 on a $10,000 debt. A few banks charge no fees. Some will waive the fee if you call and ask—so always call. Some cap the fee at $30, $50, or $75. Never accept a zero-rate balance transfer offer without checking on the fees.
Fees for cash advances. You might pay 3 to 5 percent with a $10 minimum. That’s on top of the higher interest rate banks charge for a cash advance.
Fees for paying with a check that bounces. These run up to $34.
Fees for inquiring about your credit limit. That’s a particularly neat trick. You’re charged if you exceed the limit and charged if you ask how close to the limit you’ve come. You might even be charged for paying off your card in full.
Foreign transaction fees. You might be charged an extra 1 to 3 percent for shopping abroad. The fee could even apply to foreign items bought online.
Slamming fees. Your bank may have added something extra to your account that you didn’t agree to buy, such as credit life insurance, rental car collision insurance, and other extras. Watch for these on your monthly bill and cancel them fast if you don’t want them.
They come in the mail from time to time. Your bank sends convenience checks, with the suggestion that you use them for some pressing bill (or pressing want). Need a vacation? Want a new computer? Just write a check. What’s not to like? Here’s what:
The interest rate. Convenience checks are cash advances. Banks charge higher rates for cash than they do on credit card balances. You could easily pay up to 28 percent.
The fee. There’s usually an up-front fee, amounting to as much as 5 percent of the cash advance. That’s $50 on a $1,000 advance, plus the higher interest rate. Counting rates and fees, the effective interest rate on short-term loans can top 100 percent.
With a rewards card you earn “points” based on the amount of money spent. You can use those points to buy airline miles, catalog purchases, or earn cash back. The cards are worth it if there’s no up-front fee and you pay off the balances every month. Even if you carry balances, rewards cards are good as long as you don’t pay a higher interest rate than you would on a regular card. Always compare offers before making a choice—some cards give three points for every dollar spent, others give only one point. Some get good ratings from consumer groups, others don’t. Get all the details at CardOffers.com (www.cardoffers.com). I like airline miles, so I carry a rewards card and use it to charge everything in sight. If you’re not a traveler, choose a cash back card that will send you a check equal to 1 or 2 percent of your purchases. What about using your points to buy catalog merchandise? Forget it—the goods are often overpriced. Instead redeem your points by asking the card issuer to send you a check.
Some rewards cards, however, cost more than they’re worth. They carry annual fees or charge higher rates of interest than plain-vanilla cards, making them losers for people who carry balances. Airline cards generally charge higher rates than general-purpose rewards cards from Visa and MasterCard. You’re better off with lower-rate cards whose points can be used on several airlines.
What’s more, rewards cards are tricky. You may earn points for everyday purchases but only for a limited amount of spending each month. Points may not be awarded for shopping at discount stores, department stores, convenience stores, or online. Cash back cards may pay the full amount only on spending that exceeds $3,000 in any year. Your points may expire if you don’t use them. Airline points can be hard to use because of high demand and limited numbers of free seats. If you pay late or go over your limit, you might lose your rewards that month. The bank can change the rules at any time. So know your card’s rules to get the most bang for your plastic bucks.
The rules are simple:
1. Pay your credit card bill as soon as it arrives. That way, you won’t forget it and won’t risk its being slowed in the mail. If your payment is one day late, you can be bumped to a sky-high interest rate, even if it’s your first offense. You might schedule automatic monthly payments from your bank account, if you’re sure that you’ll always have enough money available.
2. Don’t take cash advances or accept convenience checks. They’re superexpensive, which makes them harder to repay.
3. Don’t charge any more than 50 percent of your credit limit on any card. If you do, your bank might decide you’re a greater risk than it thought and increase your interest rate. It affects your credit score, too.
4. Don’t apply for another card when you already have several in your wallet. More cards make you look like a higher risk, especially if you apply for two in a row. This includes applying for a zero-interest card in order to transfer expensive balances. You’ll do yourself no good if that zero-rate card causes rates on your other cards to jump.
5. If you take a zero-interest offer, squeeze your budget to repay the loan during the interest-free period. That’s what it’s for. And don’t use the new card until the zero-interest time frame expires. If you do, you’ll run up a new interest rate bill on all your purchases.
6. Carry only one rewards card. If you own several cards—for airline miles, cash back, and catalog purchases—you may not accumulate enough points on any one program to make it worthwhile. Also, pay the bill in full each month. That’s the only way your “gifts” will be truly free.
7. Don’t pay only the minimum. That will never get you out of debt.
8. Don’t carry balances at all! Isn’t that what this chapter is all about?
To find a good credit card, try CardTrak.com. It lets you sort cards by various categories, such as “No Annual Fee,” “Low Rate,” and “Low Intro/Promotional Rate.” Look for low rates with no annual fee. Check these listings against CardOffers.com, which gives short, useful reviews of what customers get—costs, rewards, perks, and brief discussions of a card’s pros and cons. If you need spending discipline (and don’t mind paying an annual fee), choose the classic Green, Gold, or Platinum American Express card. It’s useful to know that you have to pay the entire bill at the end of each month.
Who qualifies for the low rates you see in the ads? People who: (1) carry a reasonable amount of debt relative to their incomes—no more than 40 percent tops, including the mortgage; (2) always pay on time; (3) have at least two active accounts that have been in use for a year or more; (4) use only part of their available credit, with balances on no more than four accounts; (5) have worked at the same company and lived in the same place for a couple of years; (6) had no credit problems in the past; (7) have high credit scores—generally, 720 and up (page 266); (8) are U.S. citizens; and (9) haven’t opened another credit line recently.
The last point—no new credit lately—eliminates a lot of people who think of themselves as good credit risks. Here’s why: Whenever you apply for credit, the lender inquires about your payment history. That inquiry shows on your credit report. If you have just refinanced your house at one bank and applied for a new credit card at another one, your credit report will show that two lenders asked about you. The report doesn’t say whether they accepted you or turned you down, only that they asked.
But that makes a low-rate lender’s computer a tad suspicious. It might assume that you’re suddenly loading up on credit for purposes it doesn’t know about. You’ll get a card but at a higher interest rate than you expected.
So you need a strategic plan for getting a low-rate card. First, pay down your current debts. Second, if your wallet is thick with cards, cancel the ones you’re not using much. (Your canceled cards will still show on your credit report because they’re part of your history, but the accounts should be shown as closed.) Third, let at least a year go by without applying for any new loans or accepting a higher credit limit on your remaining cards.
You may have read that you shouldn’t cancel unused cards because that will lower your credit score. That’s true in the short run if you’re carrying a lot of debt on the cards you use regularly. But if you reduce your debt and then cancel the extras, you’ll be okay—in fact, better than okay (for details, see page 268).
Your mail and e-mail are full of offers from bankers begging you to take a new credit card. It’s not your good looks that attract them. It’s not even your income. It’s your gorgeous pile of debt.
These banks buy lists of names from credit bureaus. For traditional cards, they typically want people who have no more than five or six cards already, are carrying debt on most of them, and pay their bills on time. You may be choking on your debts. You may be paying just the minimum on every card you have. You may be taking cash from one card to pay off another. That doesn’t matter. As long as you’re not a late payer, these banks want to reel you in. Some even go after people who have ten cards or more.
Most banks also offer a line of cards with high interest rates and low credit limits. They’re marketed to people who habitually pay late (think of those fat late-payment fees!), overspenders (think of the fees for going over the credit limit!), and bankrupts. They can even get lists of these unlucky people. A certain percentage of defaults is built into the rate they charge, so that they can make money even from people who can’t keep up with the bills.
Spendaholics imagine that as long as the bankers keep offering them credit, they must not be too deeply in debt. They think that the credit machine will flash TILT when they go too far. Not likely. Banks will happily dig you into a hole and charge you for the shovel. If you go broke, that’s your lookout, not theirs.
If you don’t want the credit bureaus to sell your name to credit card and other direct-marketing companies, just tell them so. Call 888-5-OPTOUT to remove your name from the major bureaus’ lists for five years. It’s not clear, however, that these calls are always honored. To take your name off the lists permanently, you have to write. That means hunting around on their Web sites for the special opt-out address. At this writing, here are the permanent opt-out addresses for the big three: Equifax Credit Information Services, P.O. Box 740241, Atlanta, GA 30374; Experian Consumer Services Department, 901 West Bond, Lincoln, NE 68521; and TransUnion Name Removal Option, P.O. Box 505, Woodlyn, PA 19094. You have to write to just one of these bureaus; it will spread the word to the other two.
If your credit score falls below 660 or so (out of 850 tops), you probably won’t be able to get a regular card even at a high interest rate. Ditto if your credit history is scant. Instead banks advertise special cards for poorer risks, and they’re making a fortune at it. The worst of the issuers don’t even care if you can’t pay. During the months that you struggle to keep up, they extract enough money from you—in high interest rates and superhigh fees—to more than cover their losses if you eventually give up and default.
In general, people with poor credit shouldn’t go looking for more debt. You’re already finding it hard enough to pay your bills. But there may be reasons to have a functioning Visa or MasterCard—for example, to rent a car. If you’re shopping for credit, there are three possibilities—one best, one middling, one so awful you should stay away:
With secured cards, you make a cash deposit into an interest-earning savings account. In return, the bank gives you a Visa or MasterCard. The card’s credit limit will typically be 100 percent of the money you’ve left on deposit. If you deposit $300, for example, you can charge $300 worth of goods. If you always pay on time and never go over your credit limit, you can graduate to a regular card in a year or two. At that point, the bank will return the money you put up as a security deposit, along with the interest it earned. If you don’t pay on time, however, the bank will use your security deposit to collect what it’s owed.
Ask your own bank or credit union about a secured card (it’s sometimes offered even if not advertised). Or check CardTrak.com and CardOffers.com. In general, you’ll need a certain minimum income (often $12,000 but sometimes less), a job, a verifiable address, and a phone number. There’s usually no credit check. You’ll probably pay 24 percent and up on unpaid balances, plus annual fees in the $30 range. Only a few banks offer secured cards, but they’re the best choice if you think a card is essential and are sure you won’t overspend. (If you blow this card too, your debt mess will be even worse.)
This is a form of debit card. You load it up with cash from your bank account (or other sources, such as Social Security) and use it wherever debit cards are accepted, including online and at ATMs. Each purchase or ATM cash withdrawal reduces the amount of money stored on the card. When it runs out, you can’t buy anything more until you load up the card again. Some cards offer overdraft protection—at a price. To check your card’s current balance, call the issuer or look up your account on the issuer’s Web site. Some cards let you check the balance on an ATM.
Prepaid cards don’t help (or hurt) your credit score because these transactions aren’t reported to the major credit bureaus. They simply give you a card to flash around. If you lose the card, it’s like losing cash—you’re out the money. If you want to return an item bought with a prepaid card, you might get a store credit rather than cash returned to your card.
The main thing to beware is fees, which jump out at you from every side. The better cards charge maybe $10 for the setup, $5 a month, $2 for using an ATM, and assorted smaller fees. The terrible ones charge a $60 application fee, a $90 processing fee, $7 a month, $15 in a month you don’t use the card, and $15 to cancel the card, in addition to incidental fees (yikes!). And there are plenty of offers in between. The high-fee cards may lure you with the possibility of a cash advance, which—if you get it—will almost certainly be smaller than advertised. Check all the offers at CardTrak.com and CardOffers.com, reading the “Terms and Conditions” to find the best.
If you have a bank account, it’s cheaper by far to open a checking account and carry a Visa or MasterCard ATM/debit card.
If you can’t get a bank account because of previous problems, you have three choices:
As usual, it’s important to read the fine print (terms and conditions). You might not be able to use your card at gas pumps (you’ll pay inside the station instead), and there may be daily spending limits. Each card is different, so pay attention—especially to the fees! Choose only a card that discloses its fees before you fill in the application, not after.
People with poor credit may not have $300 to put up for a security deposit or may not want to. So it sounds like a terrific deal to be offered a Visa or MasterCard at a decent interest rate and with a credit limit “up to $3,000.”
It’s a hoax. When the card arrives, your credit limit might be only $250. And then come the fees: “program” fees, account setup fees, participation fees, annual fees. The Credit CARD Act of 2009 limits these fees to no more than 25 percent of your credit line in the first year, but even that is shocking. More fees will arrive in later years, including over-limit fees if you allow them. These subprime cards are a travesty—stay away from them. They won’t help restore your credit, as the ads claim; they’ll almost certainly plunge you even deeper into a hole.
Finally, never pay in advance to get a credit card. People with poor credit may jump at “no questions asked” offers of credit carrying fees of $100 to $200 up front. Trust me—you’ll never get the card or will get a prepaid card that you have to fill up with money yourself. Advance-fee scams proliferate faster than the government can stamp them out. It’s up to you to protect yourself.
Read the disclosures? Is Quinn nuts? All that stupid fine print and sentences written by Philadelphia lawyers?
I know what you mean. But if you read slowly, the sentences almost parse. The disclosures tell you pretty quickly which cards are worth getting and which are pickpockets in disguise. There’s a disclosure box on the back of every credit card application and on the card’s Web site (click on “Terms and Conditions” or “Prices and Terms”). Starting July 1, 2010, you’ll get a new summary table, providing more disclosures about rates, penalties, and terms. Here’s what to look for:
The interest rate. What’s the promotional rate for new buyers? What’s the standard rate after the promotional period passes? The card may show several rates: a low one for top credit risks and higher ones for everyone else. Banks with variable rates will tell you how many points over the prime rate (or other rate) the bank charges. The box should also show the rate on balance transfers, cash advances, and the default rate if you don’t pay on time.
The grace period. Most cards give you 20 days before charging interest if you’re not carrying any unpaid balances. Some give you 25. But others are cutting back to 15 days. A few have no grace period at all, charging you interest all the time on everything you buy. There’s no grace period at all for cash advances or for new purchases if you’re carrying forward a debt from the previous month.
The minimum finance charge—the amount you have to pay even on small balances. Get rid of small balances right away.
The annual fee. Convenience users seek out no-fee cards. But sometimes the fee is waived for the first year only or waived only if you charge a substantial amount.
Other fees. The disclosure should lay out all your fees—for balance transfers, wire transfers, late fees, fees for going over your credit limit, and fees for taking a cash advance. Some cards charge a onetime cash advance fee plus a much higher interest rate than the standard rate that’s applied to purchases. Other cards have no fee and charge the same rate for everything.
International transactions. What will you be charged for using your credit card abroad? (Hint: lots.) But you usually get a better exchange rate than if you cash a traveler’s check or exchange your dollars at a bank, a currency kiosk, or your hotel.
Total cost. This one’s an eye-opener. Starting July 1, 2010, your monthly bills will show, in dollars and cents, how much you’ve paid in interest for various types of transactions since the start of the year. You’ll also get a year-to-date total for fees. When you see them added up, you might decide that credit isn’t worth its cost. Anyway, that’s what I hope you decide.
Once you’ve signed up for the card, you’ll get the full cardholder agreement laying out all the terms that the early disclosure didn’t mention. Hardly anyone reads this agreement. But if you protest a fee or change in interest rate, expect the issuer to tell you that it’s in the contract.
Students in college used to be bombarded with credit card offers. But too many 18-year-olds were signing up for multiple cards, running up debt, paying late, and wrecking their credit histories. When they stepped out into the world, they were already thousands of dollars behind.
As a result, I used to say, “Don’t take a credit card for the first couple of years. Run your life with a checking account and an ATM/debit card while you’re learning how to manage money and live within your means.”
Now I think differently. The Credit CARD Act of 2009 requires people under 21 to qualify for cards just like everyone else. Their credit limit is based on their income, which for most students will be low. At this writing, it’s not known how the card issuers will define “income.” It might include the allowance that many students get from their parents. Nevertheless, credit limits will be low, too.
Often, young people won’t qualify without a cosigner. Usually, that’s a parent, who’s now in a position to restrict the child to a single card. Cosigners for students also have to approve any increase in the credit limit, in writing.
With controls like these, students can’t get into too much trouble. So it pays for them to get a credit card early and start building a credit history. When they graduate, they’ll have three or four years of credit-card and bank-account history, which will help them lease an apartment or get a car loan at a decent interest rate. (Assuming, of course, that they pay on time and don’t exceed their credit limit!)
The picture is a little less clear for the parent who does the cosigning. If your child doesn’t pay the bill, the delinquency shows on your credit report. If you trust the child, go ahead and sign, but ask for copies of the bills so that you can be sure they’re paid. Once children are well established, they can cancel the cosigned card and get one entirely on their own. Any debt on the old card should be either paid off or transferred to the new one.
If you’re not a student or can’t get a cosigner, start your credit life with a checking account at a bank or S&L. When you’ve had a steady job and address for a few months, go to a major retailer (one that will report your payment history to a credit bureau) and apply for a charge account. At the start, you’ll be given a low line of credit but that doesn’t matter. Once you prove your reliability, you’ll be able to charge more. Finally, apply for a Visa or MasterCard—just one. You’ll pay a higher interest rate on unpaid balances than people with long credit histories do, but bide your time. Keep your credit nose clean, and apply for a second card after three or four years. At that point, you should get a better deal.
What if you’re a widow or widower? You can go on using the credit cards you have already. As long as the cards were in both your names, you have a credit history of your own—even if none of the cards was in your name alone.
Your credit limit is the total amount you can borrow—by making purchases, transferring balances from other cards, or taking cash advances. It includes fees and finance charges. Ads for cards may promise credit lines “up to $10,000,” but you typically won’t get anything close to that amount—first, because you’re a new customer, and second, because high limits go only to people with top credit scores. As you use the card successfully, your limit will rise, probably automatically. In fact, it may rise to more than you can handle. To avoid temptation, you might tell the bank to reduce your credit line, not increase it! During the 2008 credit crunch, many lenders slashed customers’ credit lines, like it or not.
If you accidentally exceed your limit, you could be charged a stiff over-limit fee and the bank might raise your interest rate. So look at your statement every month to see how much of your borrowing power you’ve used up. It’s dangerous even to run close to your limit because a fee or interest rate charge could push you over. To maintain a good credit score, you shouldn’t use more than 50 percent of the credit you have available.
Some card companies set you up for over-limit fees by refusing to raise your limit but issuing a new card instead. Now you have two cards with low limits, giving you double the chance of owing penalty fees. Don’t accept the second card! It’s trouble. Demand a single card and don’t opt into the game of over-limit fees (page 246).
A few cards require that you take a cash advance when you first sign up, so you start out with a $2,000 debt. Avoid them.
Having too many credit cards may prevent you from getting other loans, even if all your payments are up to date. That’s because each of your cards has a line of credit that you could borrow against at any time. A lender will ask: Could you carry your debts if you borrowed against every card to the max? If not, you’ll be denied another loan or get it only at a high interest rate. How do lenders know how big your credit lines are? They check your credit report at the credit bureau.
Ask the issuer of your lowest-rate card how to use its credit line to pay off balances on other cards. Some issuers will want the list of your debts and will handle the payoffs themselves. Some will accept telephone requests. Some will send you a convenience check or a pack of them. Before you act, check on the interest rate and fees.
You canceled the credit cards that you don’t use, but have you looked to see if the cancellation took? Some lenders keep on reporting your account as open even after you close it. There’s only one way to find out: get a copy of your credit report (page 260) and look. If the card isn’t shown as closed (using a designation such as “paid satisfied” or “closed by the customer”), call your former creditor and find out what it takes to get your name off its files. Then follow through in writing.
If you don’t use a particular credit card for a year or two, the bank might yank it. They have no interest in customers who cost them money—in this case, the expense of printing bills that say “Balance due: $0.” A card cancellation, by the bank or by you, nicks your credit score, although it will build back up. If you want to keep the card, use it every six months or so.
You might be offered a bank card that carries the name of your college or union or a favored charity. My question: has the group bargained for the best deal for its members, or has it taken the best deal for itself? Most organizations think “me first.” They get perhaps 0.5 percent of whatever you charge on the card, or 25 cents per transaction, or a bounty for everyone who signs up. You’ll pay the price in a higher rate or fee. Accept a bank card only on competitive terms. If you want to support your college or a charity, give money directly and take a tax deduction.
You are not responsible for your spouse’s debts that occurred before the marriage or occurred during the marriage for purposes unrelated to it. For example, you wouldn’t have to pay if your spouse sneaked off to Las Vegas and put the trip on his or her personal credit card. But you’re generally responsible for marital debts that are considered “necessaries” or purchases made by one spouse as “agent” for the other. You’re also responsible if you cosigned the debt or the credit card (including the credit card used for the Vegas trip).
Keep a list of all your cards (or photocopy them) so that you can call pronto if your wallet is lost or stolen. You’re liable for no more than $50 per card if it’s used by a thief. Most issuers charge you nothing at all (page 279).
Do you plan to pay for an ongoing service by having the company debit your bank account automatically? Consider giving the company your credit card number instead. If there’s a dispute and you cancel the service, automatic debits may take a while to stop. But you can get a credit card payment reversed by reporting it as an unauthorized charge (page 280).
Don’t jump at a creditor’s offer to let you skip a month of payments. All you’re doing is running up extra interest charges for the month you didn’t pay.
If you marry and change your name, change it on your credit cards too. Always use the same name when you apply for credit to help keep your credit history all together.
If you’re carrying unpaid balances, send in your payment as soon as you get the bill. You’re being charged interest every day, so the sooner you pay, the less your debt costs.
You think you’re paying the stated rate on your credit card? Guess again. After monthly compounding, an 18 percent card actually costs you 19.65 percent. You might also have no grace period and daily instead of monthly compounding. All this raises your effective rate.
Don’t buy credit card life insurance to pay off the balance if you die unless your health is so poor that it’s the only coverage you can get. These policies are outrageously expensive for the benefit you receive. Ditto credit card disability and unemployment insurance, which offer very limited protection.
When you pay with a Visa, MasterCard, or American Express card, you shouldn’t have to present any identification. The merchant will check the validity of the card electronically or by telephone and check the signature on the card against the way you sign the bill. You can be asked for ID if you’ve forgotten to sign your card or asked for your address if you order by telephone. Otherwise you shouldn’t have to prove anything. The card companies all guarantee payment on cards that have been properly checked.
At any rate, those are the rules. Some merchants do check, and it’s hard to override them. There are exceptions for suspicious circumstances, which some merchants stretch. Ill-trained bank card personnel may tell you, erroneously, that merchants can do whatever they want. If a merchant insisted on your ID, report the incident to your card’s customer service center. With Discover Card, however, merchants can check IDs at will.
You’re running some risks if you tell your credit card company to bill you electronically instead of by snail mail. You’ll get an e-mail notice. Still, you might forget the bill is there and neglect to pay it on time. You might miss important messages about usage and fees. Bills are usually archived for only a few months, so you can’t check on old transactions unless you print out paper copies each time or save the bills on your computer. None of this may trouble you. But think about it before giving up that monthly paper bill that comes in the mail.
Three good sites with more information on credit cards and other issues: Consumer Action (www.consumer-action.org), Consumer Federation of America (CFA) (www.consumerfed.org), and the Consumer Information section of the Federal Trade Commission (FTC) Web site (www.ftc.gov). For books, I’m especially fond of The Ultimate Credit Handbook by the consumer debt expert Gerri Detweiler (she answers consumer question on her blog, at www.gerridetweiler.blogspot.com).
Here’s a useful tip from a reader: “While on a trip, I started having trouble with my ATM card. At first it worked erratically in the ATM machines, then not at all. It turned out that I had a magnetic clasp on my billfold, which demagnetized my card. I had never heard of that.” Neither had I, but now all the other readers will!
Every lender has different rules for handling delinquents, but here are some general answers.
What if I pay my credit cards late? Just one late payment will cost you a fee in the $35 to $40 range. It nicks your credit score but won’t affect your access to decent cards. Two or more add a fee each time and can raise the interest rate on your unpaid balances to 30 or 40 percent. Late payments show on your credit history. If you apply for a mortgage, the lender may demand an explanation for any late payment within the past two years.
What if I miss a payment? After the first month, you’ll get a letter or phone call from the bank. At that point, or one month later, your interest rate will increase. If you still don’t pay, your charge privileges will be suspended. New cards are suspended more quickly than older ones. If you try to use the card, it will be rejected at the cash register.
Will the lender restructure my debt? Sometimes, if your problem appears to be temporary and not of your making. Banks understand sudden unemployment but have no sympathy for people who overspend. If you think your cash shortage won’t last long, talk to the bank before you become unable to make the minimum payment. You might be offered lower payments, or no payments, for a few months. If you’re truly desperate, the bank might settle for less—say, 50 or 70 cents on the dollar for unsecured credit. Skipped payments are usually reported to the credit bureaus, but at least you won’t be dunned. Banks don’t always offer a hand. Still, you might as well ask.
If my credit card is suspended, can I get it back? Usually yes, as long as you pay enough to bring your card up to date. But you’ll pay a much higher interest rate. If you rack up two or three 60-day payment gaps or don’t pay for three months or more, your account will probably be revoked. You might still recover your card by making back payments. But the bank may reduce your credit limit, perhaps leaving you too little credit for business travel. Your slow payments or suspension will show on your credit report.
After three to six months of skipped payments (each bank has its own rules), your account will be reported to the credit bureau as a charge-off—meaning no-pay. Even if you eventually repay, that lender is unlikely to restore your card. When you think you can pass a credit review, go to a different lender.
Why bother repaying if I already have a charge-off on my credit record? You can’t remove this credit blot by bringing your account up to date. It will stay there for seven years, warning other creditors to beware. But the record will also show if you eventually paid (check your credit report to be sure). Making payments gives you a better shot at new credit than if you let the delinquency stand.
Will the lender sue? That depends on how much you owe, what assets you have, and where you live. Some states make it easier than others for a creditor to win a lawsuit and collect. The cost of filing a suit is also an issue; one county might charge $60 and another $160. One bank might sue for as little as $1,000 in a procreditor state if you have assets and the cost of the lawsuit is less than it hopes to recoup. At another bank, the lawsuit trigger might be $2,500. More likely, your account will be sold to a collection agency that will drive you nuts with dunning calls.
Can I keep the one or two credit cards that are up to date even though I’ve stopped paying others? Usually, yes—but not on the same terms. Most lenders check their customers’ credit reports every month, every quarter, or when a card is renewed. If you’re delinquent on other bills, it will increase your interest rate. Some banks will suspend your card even though you’re still making payments on time. You probably won’t get your charge privileges back until you bring all your debts up to date.
If my credit cards are taken away, what should I do? Start repaying past debts, perhaps through a local office of the Consumer Credit Counseling Service (for an office near you, call 800-355-2227). The initial consultation is free. For more on counseling services, see page 287.
All the credit card companies, finance companies, and major retailers report to at least one of the three major credit bureaus: Experian, Equifax, and Trans-Union. They send data once a month showing who paid bills on time and who didn’t. They also collect information from bankruptcy courts and debt collection services. The three bureaus operate separately, so they may not all have exactly the same data. Here’s what shows up on a typical credit report:
1. Your name and the variations you’ve used on credit applications (such as “Hallee Jones” and “Hallee M. Jones”; then, after marriage, “Hallee Smith”), current and previous addresses, Social Security number, driver’s license number and the state where it was issued, year of birth, current and previous employers (this list may not be complete), and the name of your spouse if you have one.
2. Your bank cards, retail charge accounts, installment loans, home equity lines, first mortgage, and when each account was opened. Also, the type of loan—revolving, education, auto.
3. Whether your last payment to each creditor was on time or late and, if late, by how much. (Creditors pay more attention to the past two years than to your earlier history.)
4. Current account balances, the highest amount that you’re allowed to charge on each line, and the largest amount that you’ve ever owed to that particular creditor.
5. The status of your account—current, past due, or charge-off.
6. The amount that’s past due.
7. The latest you ever paid on that account and how many times you’ve been delinquent.
8. Any special problems with your account—for example, that goods were repossessed or that a bill collector had to be called in.
9. Court actions such as liens, judgments awarded to creditors, bankruptcies, foreclosures, wage attachments, accounts in collection, and delinquent child support payments being tracked by the state.
10. Your legal relationship to the account: Are you jointly responsible? Individually responsible? A cosigner? Who else is responsible for paying?
11. Past accounts paid in full but now closed and closed accounts that were not paid in full.
12. Whether you’ve put a statement on the record in a dispute with the lender.
13. The names of the companies that have looked at your account. Your copy of the report includes companies that sent you promotional mailings in the past year, current creditors that are monitoring your report, companies that vetted your report for employment purposes during the past two years, and companies checking you out because you solicited credit. (The companies checking you for credit see only the inquiries from other potential credit granters made in the past two years.)
On the personal side, credit bureaus know only what you’ve put on the application when you requested credit. It reports what you do for a living but not how much money you make. It doesn’t know if you’re divorced or have nine kids or drink or have an arrest record or your age or what color you are or what interest rate you’re paying on other cards. It does not make credit decisions. It simply reports your payment history to lenders who are thinking about giving you money. The lenders make their own judgments about whether to take you on. One lender may love you and give you a huge credit line; another one may turn you down. If you misrepresented something on your credit application, that will show up on your credit report too.
Most people have good credit. All you need is a steady job with a history of paying bills on time. If you tend to pay late, the interest rate on your unpaid balances will rise, but you won’t be kicked out of the credit system. Lenders get rich on people who pay late! It’s not smart to apply for new credit at a time when you’re behind. But once you’ve caught up for a couple of years, you should be able to get new credit on decent terms.
Here are the few things that may cause a lender to turn you down for a regular card:
None of these black marks means that you won’t get a card at all. Subprime lenders stand ready to give you a card that carries outrageous fees and may get you even deeper in debt (page 252). Best advice: Don’t look for more credit when you’re already in trouble. Clean up past problems so that you can start over on reasonable terms.
Negative credit information, including the history of closed accounts, stays in your file for 7 years. Positive information can be reported indefinitely. Wage earner plans (Chapter 13 under the bankruptcy code, page 289) may be wiped out after 7 years, but straight bankruptcies will weigh down your record for up to 10 years. Bankruptcies go onto your credit report shortly after you file and will stay there even if you change your mind.
You should check your credit report from time to time to be sure it’s accurate. Checkups also alert you to identity theft. Reports are available free from AnnualCreditReport.com (www.annualcreditreport.com)—one a year, from each of the three major bureaus. You can get three at once; alternatively, order from one bureau in January, another in May, and the third in September, so you’ll be current all year. Each credit bureau also offers its own “free” report, but only if you buy other services, such as your credit score (see below) or a pricey monitoring service ($9 to $15 a month) to tell you when notable changes occur in your report or score. In general, monitoring isn’t worth it because new accounts aren’t entered right away. Monitors don’t know if new purchases were made by you or a thief, nor can they tell you whether your Social Security number is being used by someone with a similar name. Newer services troll the Internet to hunt for misused Social Security numbers, but it’s not clear how effective they are. If you’ve suffered identity theft or worry about it, forget about monitoring. Instead add fraud alerts to your accounts or freeze your access to credit (page 272). And watch for changes yourself on your free reports.
You also get a free report if you ask for it within 60 days of being turned down for credit, an apartment, insurance, or a job based on something the report says. The rejection letter will tell you where to write or call. Free reports can also go to victims of fraud; people on welfare; and unemployed people who are looking for work.
Married people should ask for reports listed under their personal names and Social Security numbers (Elias Smith and Laurie Smith, not Mr. and Mrs. Elias Smith). If you use just one name (the Mr. and Mrs.), you’ll get only one credit report, so lenders won’t be looking at both of you. There’s no such thing as a joint report. Transactions arising from joint accounts are reported twice, once to the husband’s account, once to the wife’s. Note that you cannot get your spouse’s history, only your own.
Your report will come with a form for reporting errors. If you find one, note it on the form, make a copy, and mail the original back to the credit bureau. The bureau must check the disputed information with the creditor. If it can’t be verified within a reasonable time (around 25 days), it should be deleted. Request a report from all three major bureaus (Equifax, Experian, TransUnion); they may share the identical mistake.
Unfortunately, your creditor might not bother to check the facts. Its “investigation” may merely verify that its records match what the credit bureau shows. You’ll have to go mano a mano with the creditor, presenting evidence that you’re right. Once you’ve proven your case, the creditor will send the credit bureau a correction. The credit bureau will also accept certain evidence from you directly—for example, canceled checks proving that a debt was paid or a receipt showing that a disputed item was indeed returned.
When your name is cleared, check your report at each of the three major credit bureaus, and ask those bureaus to send fresh reports to the smaller bureaus they sell information to. Sometimes this job is only a headache. Sometimes it’s a nightmare.
If any correction is made in your credit report, the credit bureau has to send a corrected copy to any creditor who received it in the past six months and any employer who received it within the past two years.
If you find a mistake on one credit report, get your free reports from the other two bureaus too. You might have a file in each, and they don’t always share corrections.
You can’t sue a creditor for making a mistake. Lawsuits are possible, however, if the creditor doesn’t correct a mistake or reinserts erroneous data in your file. Creditors also have to report, and your credit history has to show, when an account is in dispute and if you closed an account voluntarily. If you need a lawyer, look for one who’s familiar with the complex credit laws. One source: the National Association of Consumer Advocates (NACA) (www.naca.net).
Nowadays, even minor errors can make a difference. They won’t prevent you from getting credit but may increase the interest rate you’re charged. Take a single, erroneous “slow-pay” report. That might raise your credit card rate from 12 percent to 19 percent. A major mistake, such as showing a tax lien against you that belongs to someone else of the same name, may cut you off from credit during the months it takes to straighten out the mess.
1. You are applying for an important loan, like a mortgage. An inaccurate credit history might keep you from getting it or raise your interest rate.
2. You are separating from your spouse and want his or her new transactions off your personal credit record.
Write to all your creditors, closing joint accounts and asking for a new account in your name alone (tell your spouse you’re doing it so that he or she can write for a personal card at the same time; it’s vindictive to leave a spouse with an invalid card). Three months later, get a copy of your credit report. It should show your joint accounts as closed by the consumer (not closed by the creditor). If it doesn’t, tell each of the bureaus that the joint accounts are listed in error. At the same time, go back to the creditors and demand a correction.
The closed accounts will remain on your report as part of your credit history. You’re both still responsible for any debt you contracted jointly. If neither of you pays, the blot will show up on both your reports. For this reason, it’s safer to move all joint debt to separate cards.
3. You’ve paid off a court judgment against you for money owed. Your credit report may carry the judgment. You want to be sure that the record shows the judgment paid.
4. You’ve had a dispute with a store and refused to pay a bill. You and the store cannot reach agreement, so you’re reported as delinquent.
You are entitled to put a 100-word explanation into your credit report. Call each of the three bureaus in case they all have files on you. The report will summarize your side of the story or list the type of dispute by code number. Warning: This procedure may help in face-to-face credit situations—say, if you’ve applied for a mortgage or a personal loan and can tell the lender more about the dispute. But if you apply for a credit card and are checked by computer, your explanation will normally be ignored. If the issue is resolved, the adverse data has been removed, or seven years have passed, be sure to remove the explanation.
5. You have been harmed (turned down for credit, rejected for insurance or a job) based on information in a credit report. The lender has to tell you the name and address of the bureau it used. That bureau will send you a free copy of your report as long as you ask for it within 60 days, plus the names of everyone who got the report in the past 6 months, plus the form for challenging erroneous information.
6. You had a dispute with a lender over whether a bill had been paid, and the dispute was resolved. It’s important to be sure that the bill no longer shows on your credit report. Sometimes lenders don’t remove the item and sell it to a debt collection service. Your credit score will plunge and you’ll be dunned endlessly for money you don’t owe. Check, check, and recheck at all three bureaus until your report is clean.
Lenders use computer models to identify the borrowers who are most likely to repay their debts on time. We all get points for the various items shown on our credit reports, such as how long we’ve used credit cards, how often we pay on time, and how much we owe. Certain lenders may add other items, such as how long we’ve been at our current job. The total of all our points is called a credit score.
The most commonly used credit scores today, computed by a company called Fair Isaac, are known as FICO scores. You have three FICO scores, computed from your credit history at each of the three major credit bureaus. They’re similar, so knowing one FICO is usually enough. The three bureaus also advertise scores that they have developed themselves, but they’re not worth buying. Creditors don’t use them; they use only FICOs.
What’s a good score? That’s something lenders decide for themselves, but in general a top FICO would be 740 or higher (out of 850). In the high 600s, you can still get a conventional mortgage or credit card, although at a price. Below 620, you’re probably subprime, with poor credit options. Below 550 … well, you don’t want to go there. Interest rates and fees are lowest for those with the highest scores and rise as your score drops.
Scores change as new information arrives each month. If you were running at 740 and then put the cost of new living room furniture on your card, the added debt will drop your score a few points, but normally not by enough to put you into a different category of risk. As you pay off that debt, your score will rise. Each lender chooses a cutoff score for applicants, depending on the kinds of customers it wants. You’re the ideal applicant everywhere if:
You have held your job for a while. (Lenders assume that you aren’t going to be fired, although that’s hardly a certainty anymore.)
You own your home. (Owners are less transient than renters.)
You’ve lived in your home or rented your current apartment for a while (proving that you can handle the payments).
You hold just a few credit cards and always pay on time.
You carry balances on your card rather than paying in full each month (card companies love debtors best). But the balances rarely exceed 30 percent of your available credit and usually run lower than that.
You have reasonable debts and credit lines compared with your income. (A high income isn’t required, just evidence that you live within your means or not far beyond it.)
You haven’t recently applied for other credit or run up major new debts on the cards you have.
You carry more bank cards than department store or retail cards.
You’ve led a spotless credit life: no delinquencies, no charge-offs, no liens, no bankruptcy.
You work in a field considered steady. Teachers are more desirable than farm owners because farms can go bust; doctors are more desirable than lawyers because lawyers worry less about being sued.
It’s crucial that your credit report be accurate, because it’s the basis of your scores. An error can affect the interest rate you’ll have to pay. Check your report for things such as debts you’ve repaid that still show as open or accounts belonging to an ex-spouse.
If you’ve just moved, keep on using the bank cards you have already. This isn’t the moment to apply for a card with a lower rate. Don’t ask for new credit (except, perhaps, a department store charge card) until you have been at your new job and new address for a year.
If you’re turned down for credit, lenders have to say why. The rejection letter might list several items you scored low on. None is the deciding factor, and some may be incomprehensible (how would you interpret the following explanation: “Recently active or lack of bank, retail, or finance accounts”?). You’re entitled to a free credit report from the bureaus the lender relied on, so you can check them for accuracy. If just one of your low-scoring items had been higher, it might have lifted you above the line.
Every time a potential lender pulls your credit history, that inquiry shows on your record. Some lenders automatically turn down anyone with three or four inquiries—say, for a mortgage and new credit cards—over a short period of time. Apply for just one card, and build a good credit history on it. Then apply for a second (following the strategy of owning two different types of cards—page 243). After that, get another card only if it’s better than one you already have. Don’t take cards you won’t use or keep too many cards.
There’s one exception to the inquiry rule: for people rate shopping for a mortgage or auto loan. All the inquiries you make within a 14-day period will count as just one application, so do your shopping all at once.
Check your score a year before applying for an important loan such as a first mortgage. Improving it by just a few points might speed the approval process and reduce your interest rate by a half percent or more. Here’s how to do it.
Check your credit report for errors that might have lowered your score.
Pay down the high balances on your cards. This alone can improve your score pretty fast. Shifting balances from one card to another doesn’t help. Creditors look at your total debt.
Pay all bills as soon as they come in, to be sure that none slips past its due date.
Pay off back bills; they don’t go away.
Pay more than the minimum on your accounts.
Pay your balances in full each month. It’s a myth that scores are higher for people who carry debt (although credit card issuers might solicit perennial debtors, for the interest revenue they bring in).
Two cards are better than one. If you own just one, your credit history may be too thin.
Don’t open new accounts (except to get that second card).
Never go over your credit limit.
If you have loans from a credit union, ask if it reports your payment history to all three credit bureaus. Many of them don’t. If yours isn’t reporting, and you’re paying on time, that good behavior won’t show on your record. If your credit union doesn’t report, you’ll need credit cards or loans from another source to build a credit history.
Increase your credit limit. By increasing your limit, your current debt becomes a smaller percentage of the total credit available to you. That raises your score. But if you spend to that higher limit, your score will tumble again—and you’ll have a bigger debt.
Borrow from banks rather than finance companies. Customers of finance companies are generally thought to be slightly poorer risks.
Use credit cards instead of debit cards and pay off the balance every month.
Be sure that the credit bureau removes any adverse information that’s older than 7 years and bankruptcies older than 10 years. This should happen automatically, but sometimes credit bureaus slip up.
Avoid cards that don’t report your credit limit to the credit bureaus. In cases like this, scorers will treat your highest balance as your limit. That makes it look as if you’ve run up a lot of debt on that card, hence reducing your score. At this writing, Capital One is the largest issuer that doesn’t report credit limits.
Get separate credit cards for any business you run. Business charges generally aren’t reported on your personal credit history.
Canceling unused cards won’t raise your credit score. In fact, it will lower the score if you don’t reduce your other credit card debts. (That’s because having fewer cards increases the ratio of your debt to your open credit lines.) Your score shouldn’t change, however, if you cancel cards and substantially reduce your outstanding debt at the same time. It you have lots of cards, reducing their number will improve your credit standing, over time.
Never cancel your oldest card, and use it now and then to keep it current. Longtime accounts mark you as an experienced user of credit, which lenders like.
Become an “authorized user” on someone else’s card. By sharing the card, you share its credit history although you don’t get the same credit score. Authorized users are typically teenagers or young adults added to a parent’s card, or a new spouse added to the other’s account.
Their ads imply that they can wave a wand over a bad credit history and bring you out smelling like a rose. They can’t. If there are errors in your record, you can fix them yourself. True information cannot legally be removed.
Some credit repairers harass credit bureaus, challenging even items that are correct. Their strategy is to question more items in your record than the bureau can verify within the time limit, so it will have to expunge derogatory facts. But credit bureaus will resist. They don’t have to follow up on frivolous challenges. They might not deal with a particular credit clinic at all. By law, clinics aren’t allowed to charge you until they’ve delivered the goods. If you pay up front, you’re waving bye-bye to your cash.
When you get instant credit at a department store or instant approval for an auto loan, the lender is dialing up your credit score. It’s increasingly being used to judge mortgage applications, approve small-business loans, and check on job applicants. A number of insurers check a similar, credit-based score before selling you a homeowners or auto policy (it predicts how likely you are to cost your insurer more in claims than you pay in premiums). Who knows where scoring will spread next? More than ever, you need to keep your nose clean and periodically check the accuracy of your credit report.
Some lenders mine your credit accounts to see where you’ve been spending money. A 2008 lawsuit filed by the Federal Trade Commission charged that a particular subprime card issuer lowered credit lines for customers who used their cards to pay tire-retreading shops, massage parlors, billiard halls, and marriage counselors. The FTC didn’t object to the fact that the issuer was monitoring its customers’ behavior—only that it didn’t tell them so. As data mining grows more common, more scoring systems may peek into your private life. It’s an unsettling trend.
Unlike credit reports, FICO credit scores aren’t free. You have to buy them, and the selling organizations try to get you to purchase much more besides. At this writing, one FICO score from Equifax or TransUnion costs $15.95 from myFICO (www.myfico.com). Experian sells its own report for $15 at www.experian.com but it’s not the FICO score that lenders use. All three credit bureaus sell a “3-in-1” score, which packages their credit scores with pricy add-ons such as debt analysis, credit monitoring services, and your current credit report (they think you don’t know that you can get your credit report free). For general purposes, one FICO is enough. Any correction you make is supposed to be shared with the other bureaus. Buy all three FICOs only if you want to be sure that all three reports are error free before you apply for a mortgage or other important loan.
As for the credit-monitoring services, they tell you whether new accounts have been opened in your name. Cost at this writing: $9 or $10 a month. That’s pretty pricey. If your identity has been stolen, a service may get you that information a little sooner than you’ll discover it yourself, but the damage is already being done. Besides, a lot of ID theft comes from using numbers stolen from your current cards, not by opening new accounts. Those worried about ID theft would do better to freeze their accounts, so that no new loans or cards can be taken without your personal say-so (page 272).
FICO offers lenders an Expansion FICO score that gleans information from payday lenders (they give high-interest loans against your next paycheck), rent-to-own stores, and companies with files on people who bounce checks. If you’ve used these banking and buying services and handled them responsibly, your history will help you get a traditional loan or credit card. But if you paid late or are constantly in debt to payday lenders, your credit will go down the tubes. In general, payday loans and rent-to-own services charge such high interest rates that you shouldn’t use them at all. Instead establish a bank account and try for a retail credit card or gasoline card to build a traditional credit history. Getting an auto loan helps too.
The Expansion FICO score also reports data from Payment Reporting Builds Credit (www.prbc.com), a site that gathers data principally on rental payments but also on other recurring bills that aren’t reported to the traditional credit bureaus. You have to sign up to be part of PRBC.
When you apply for a big life insurance policy, the insurer wants to know more than whether you pay your bills. It wonders whether you’ve told the truth about where you work, whether you’ve ever been caught driving drunk, and whether your hobby is skydiving. So it will turn to one of the bureaus that specialize in gathering personal information. Some employers do the same. You give permission for the investigation when you sign the insurance or job application form.
Who is the chief source of information for this type of report? Usually you. The investigator calls you up and asks you some questions. Your neighbors may also be called, or a former employer. The interviewer has to identify himself and his purpose. Before answering, write down the interviewer’s name and get a place to call to check up on him.
These reports are not kept very long because the information goes stale. They may be junked after just 90 days (although they’ll stay in storage for six months, in case a consumer requests disclosure). If you’re turned down for insurance or charged more than the basic rate, based on information in an investigative report, you have a right to see and challenge it. The bureau can withhold just two things: (1) the names of the people who gave the information and (2) the nature of any medical information that may have been given directly to the insurer or potential employer without being copied into the bureau’s files.
Identity thieves masquerade as you. They get your name, address, and other identifying information, which is available from dozens of legal and illegal sources. Then they open fraudulent accounts in your name or change the address on your credit cards and take over accounts you already have. They run up huge bills and leave you with the mess. Creditors may not believe you when you say that you didn’t make those purchases. Bill collectors may dun you. Liens may pile up on your property. Because of your apparent debts, you may lose your access to credit, be rejected for jobs and apartments, even be subject to arrest.
One way the thieves operate is to steal credit card offers from your mailbox or place of business. They apply in your name but with a different address. The credit card and all subsequent statements will be sent to that false address. They sometimes get a card even if they give a wrong Social Security number. You’ll know nothing about it until you get the first dunning phone call. How to avoid this? Get your name off the marketing lists that credit bureaus sell (go to www.optoutprescreen.com or call 888-5OPTOUT).
There’s a hitch: you can take your name off only the lists drawn from personal credit information, which are sold for credit card solicitations. Credit bureaus can continue to sell so-called header information (the identifying items at the top, or head, of your credit report, such as name, address, and even Social Security number), whether you approve or not.
Another way thieves operate is to “phish” for data. You may get an e-mail message, apparently from your bank, broker, or other financial company, asking you to update your records. It might even tell you there was a break-in and that—for safety’s sake—you must confirm your personal information. The site looks like the one you normally do business with. If you provide the information, however—bank account number, credit card number, Social Security number—it goes right into the hands of crooks. How to avoid this? Never provide personal information in response to an unsolicited Web or telephone request. True financial institutions don’t ask.
How else can thieves get you? By stealing your wallet and hoping it contains your ATM PIN number and Social Security card. By hacking into your computer if you do online banking in a wireless hot spot. By breaking into a large computer—say, at companies that process credit cards, retailers, universities, or the federal government—and stealing millions of numbers at a time. By buying data from careless credit bureaus. By bribing employees who have access to data. And that’s just a start. No matter how careful you are personally, you’re potentially at risk from companies and institutions that handle your information. Your mother’s maiden name and your Social Security number may already be circulating on the Internet.
Does online banking increase the risk of identity theft? Only if you use your computer in wireless hot spots where a hacker can grab your passwords. Otherwise bank links are generally safe. If a crooked employee lifts money from your account, the bank will make good. Consider receiving your bank statements by Web rather than by mail, since thieves can raid mailboxes.
Does buying goods online increase your risk? Possibly, if you buy from a “shop” that turns out to be a front for collecting personal data. But stick with well-known companies and you’ll be reasonably safe. Besides, you can’t save yourself by ordering only by phone or even by going into stores. All credit card data will probably be stored in a central place. A successful hacker can grab the numbers, no matter how you purchased the goods.
1. Put a security freeze on your credit account—the surest protection I know. It prevents anyone (you included) from opening new accounts in your name without your say-so. If you want a new account yourself, just contact the credit bureau and lift the freeze temporarily.
The rules on freezing your reports vary according to state law. Check your state at FinancialPrivacyNow.org, a site run by Consumers Union. If your state has no law, you’ll be subject to the credit bureaus’ rules. The bureaus can charge up to $10 for imposing the freeze and another $10 for lifting it (some states cap the fees at $5 or less). A freeze might be free if you’ve been a victim of identity theft. To prove it, however, you’ll have to provide a police report showing that you made a formal complaint.
The credit bureaus require that you ask for the freeze by mail. To unfreeze your account temporarily, you’ll need to call or make an online request using a special PIN number that the bureau sent. At this writing, the process may take up to three days, so if you plan to apply for a loan or open a new credit card account, call the bureaus in advance. Some states are passing “quick thaw” laws requiring bureaus to take just 15 minutes to unfreeze accounts.
You may not be able to use a debit card to rent a car or pay for a hotel room if you freeze your reports. But a credit card will work.
To set up a security freeze, check each bureau’s Web site (by typing “security freeze” into its search engine) to see what information they want. They won’t accept you if you miss one little thing. Here’s where to write:
Equifax Security Freeze
P.O. Box 105788
Atlanta, GA 30348
Experian
P.O. Box 9554
Allen, TX 75013
TransUnion
Fraud Victim Assistance Department
P.O. Box 6790
Fullerton, CA 92834
One chink in this armor: A security freeze stops thieves only from opening new accounts in your name. They can still steal the numbers on cards you own already and run up bills.
2. Don’t carry critical information, such as your PIN, in your wallet. If the wallet is stolen, close your credit card account immediately. If there were checks in your wallet, close your bank accounts too. Call any one of the three credit bureaus and put a “fraud alert” on your account (Equifax: 800-525-6285; Experian: 888-397-3742; TransUnion: 800-680-7289; the bureau you call is supposed to notify the other two). Fraud alerts last for 90 days. During that time, creditors are supposed to verify your identity personally before opening new accounts, and the credit bureau is not allowed to sell your personal information. You’re also entitled to a free credit report from each of the bureaus (but you have to ask for it).
3. Ask that your credit reports show only the last four digits of your Social Security number. The credit bureaus are required to comply.
4. Don’t give out personal information to people who call or who send apparently “official” e-mail notices. If you did so accidentally, call the credit bureaus and impose a fraud alert.
5. Don’t store your financial passwords in your computer, especially if it’s a laptop that you carry around.
6. Shred or tear up financial records before throwing them out.
7. Check your credit report regularly. This won’t prevent theft but can catch it before it goes too far.
8. If a company informs you that its data bank has been breached and offers to monitor your credit report, accept (as long as you don’t have to pay). Most breaches don’t result in identity theft, but you never know. Freeze your accounts!
1. Tell the credit bureaus to impose an instant fraud alert, take your name off marketing lists, and send you your free credit reports. Check all your transactions and accounts and notify the bureau, in writing, which ones aren’t yours. Check that the bureau has your correct name, address, and Social Security number. Close all accounts that have been tampered with.
2. If you live in a state that allows it, freeze your accounts. If not, tell the bureaus that you want a long-term (seven-year) fraud alert. For this you’ll need a police report.
3. Report the thefts to the police and get an official identity theft report. Some police departments may try to brush you off, but persist. You often need that report to start the process of clearing your name. If the local police won’t comply, try the state police.
4. File an ID Theft Affidavit with the Federal Trade Commission (www.consumer.gov/idtheft or 877-438-4338) if new and unauthorized accounts have been opened in your name. The affidavit can be included in the police report. You should also send copies to the three credit bureaus and each of your creditors, along with the statement of rights that the FTC provides. Phony accounts shouldn’t show on your credit report while they’re being investigated, and bill collectors aren’t allowed to dun you.
5. Ask your creditors what you have to do to get the phony accounts or unauthorized charges off your record. Follow up with a dated letter (certified mail, return receipt requested) saying that you’re a victim of identity theft and enclosing copies of the proof the creditor wants. Include a copy of the police identity theft report and the ID Theft Affidavit you filed with the FTC. The affidavit includes a list of the creditor’s obligations; among other things, it has to stop reporting phony accounts to credit bureaus while the dispute is being investigated. Keep copies of everything you send. Keep a list of the names and phone numbers of everyone you speak with and the date you called. This will be a long campaign.
6. Call the courthouses that have reported cases against the fake you, and follow up with letters. This will be an even longer campaign.
7. Don’t cancel credit cards that haven’t been affected. It will be hard to get new credit as long as your reputation is under a cloud.
8. For expert guidance, check the FTC’s identity theft Web site (www.ftc.gov/bcp/edu/microsites/idtheft). It includes sample letters to send to police departments, creditors, and credit bureaus, information about your rights, and action plans.
Almost everyone carries a retail debit card today. It’s your ATM (automated teller machine) card with a Visa or MasterCard logo attached. Your bank might call it a cash card, pocket check, check card, convenience card, or similar name. Paying by debit is the electronic equivalent of writing a check, so you’re effectively paying cash. In an ATM, the card “debits”—withdraws—money from your bank account. When used for a retail purchase, the card authorizes the bank to pay the bill from your account immediately. You can pay in one of two ways:
1. You slip the card into a terminal. After the clerk adds up your purchases, you punch in your personal identification number (PIN) and zap the payment out of your account. You can ask for more money than you owe; the clerk will give you the overage in cash.
2. You use the card at a store or restaurant anywhere in the world that accepts Visa or MasterCard credit cards. There are no terminals and no PINs; you simply sign for the purchase. When it reaches your bank, it registers as a debit.
A cash management account at a major stockbrokerage house also provides a debit card. Your account presumably contains cash waiting to be invested or parked there for convenience. If you use the debit card to make a purchase, payment is made from the money fund account.
Some consumers don’t use their debit cards except at ATMs. They prefer to put down credit cards and pay by the end of the month, before running up any interest charges. But for people struggling to get their spending under control, debiting helps limit impulse buying.
Every time you use your debit card, enter the amount into your check register to keep track of how much cash you have left. Or check your balance online.
Many debit cards now include rewards points for airline miles or catalog purchases. They’re typically not as generous as those given by credit cards but at least offer a little something back. Some users, however, are losing their points because they don’t know how to collect. Here’s what you need to do:
At terminals where you enter your PIN, the screen asks you to tap either “debit” or “credit.” If you tap debit—the logical thing to do—you do not get rewards points! You have to tap credit so the transaction runs through the credit card system; that’s the only system that handles points. Your transaction will still be handled as a debit when it reaches your bank, but now your rewards will be registered too.
You face no complication when you sign for a purchase without entering your PIN. In that case, the points come automatically.
1. You’re swearing off credit cards but want the convenience of paying with plastic.
2. You don’t want to carry a lot of cash.
3. You don’t want to bother carrying your checkbook or hauling out identification to get your check approved.
4. You don’t want to run the risk of paying interest on your purchases, as you might if you paid with a credit card and couldn’t cover the full bill at the end of the month.
5. You want a plastic way of making small purchases without adding them to your credit card and triggering extra interest that month.
6. You’re learning financial discipline. Debit cards encourage you not to spend more money than you have in the bank. You can add overdraft protection—loans to cover your purchases if you overdraw. But psychologically, you’ll hate to see those loans on your balance sheet and will hasten to pay them off.
What about the float? When you write a check, you imagine that you have a couple of days before it clears, during which time your funds could still earn interest. Unfortunately, your imagination has run away with you. That float is gone at major stores. They can “cash” a check immediately by sending your bank the information on your check electronically. You’re asked to sign a receipt, and the store will hand back your check, noting that it has been paid. You might as well use your debit card.
1. More banks are adding fees to certain types of transactions. If you swipe your card, press “debit,” and enter a PIN, you might be charged 10 cents to $1.50 each time. There’s usually no fee, however, if you swipe your card, press “credit,” and sign for the transaction—so always take this approach. Your purchase will still be handled as a debit, and you’ve saved some money.
2. There’s less theft protection with debit cards. If a thief steals your credit card, the law says that you generally can’t be forced to pay any more than $50 of the bill. Most banks waive even that small penalty. No such law protects people whose debit cards are stolen and used for retail purchases. As a practical matter, however, both MasterCard and Visa say they’ll treat you the same as their credit card holders if your account is in good standing. That means you shouldn’t be charged for transactions where the thief signed for the purchase or used your card on the Internet. (For more on your legal rights, see page 279.)
3. MasterCard and Visa protect only Internet or signature transactions. If a thief uses your PIN—for example, to withdraw money from your account at an ATM—it’s up to the bank to make you whole. You have to explain to the bank how your card might have been misappropriated—maybe because you lost your wallet or used your card in an ATM that had a funny look (some thieves install “card skimmers” over regular ATMs, especially abroad; the skimmers read your card number and PIN). But you might not know how the theft happened if someone stole your numbers by looking over your shoulder while you were at the ATM. The bank is supposed to assume you’re telling the truth about the loss, unless it can prove otherwise. If the bank resists, send a formal complaint letter to the Office of the Comptroller of the Currency, Customer Assistance Group, 1301 McKinney Street, Suite 3450, Houston, TX 77010, or fax 713-336-4301. For more information about the complaint process, see www.occ.treas.gov/customer.htm.
4. If a debit card thief empties your bank account, you might bounce some checks. The bank should restore the money stolen from your account, but that takes several days. In the meantime, bouncing checks may create a late payment in one of your credit card accounts and a blotch on your credit record. How much could be stolen? All the cash in your account plus any credit line the card will access.
If you lose a debit card linked to a brokerage account, the thief can spend all the cash you’re holding there, plus the value of your margin account (that’s up to half the value of your stocks and stock-owning mutual funds, and even more for bonds).
5. Payments by debit card don’t help you build a credit record, although you’re probably using a credit card too. That will keep your record up to date.
6. You can’t stop a transaction the way you can stop a check.
7. If you buy something that’s defective and pay by debit card, you have leverage if the seller won’t replace it. Visa and Mastercard let you rescind the payment. You can’t rescind, however, if you paid with any other type of debit card. For extra safety, don’t use a debit card for Internet, toll-free number, or catalog purchases.
8. If you use a card—either debit or credit—at gas stations, hotels, and car rental agencies, the seller typically puts a hold (a “block”) on your account for a larger payment than you’ll probably authorize. For example, they might block $50 of the money in your checking account when you fill up at the pump, even though you spent only $30. New Visa rules require gas stations to lift the block on the money you didn’t spend within two hours ($20, in this example). MasterCard stretches that to 24 hours or the next business day. At this writing, however, hotels and rental car agencies might maintain the block for several days. Why do they do it? Because, at the start of the transaction, they don’t know how large the bill will be (will you drive the car an extra day or return it on time?). They want to be sure you have enough cash on hand.
Starting July 1, 2010, credit-card holders cannot be charged an over-the-limit fee if the reason they ran over their limit was a hold or block on their account. But there’s no such break for people who use debit cards. Debit card users who are close to the limit in their checking accounts may find those accounts completely frozen, causing outstanding checks to bounce or triggering an expensive bounce protection plan. To avoid long blocks from hotels or car rental companies, pay with a credit card. If you use a debit card, ask how large the block will be and when it will be removed.
It’s easy to do. In the past, banks alerted you if your purchase was for more money than you had in your account. Some wouldn’t even let the transaction go through. Now, however, they’ve realized that debit card holders are ripe for milking. They allow you to exceed your balance, up to a ceiling such as $300, and charge you for it. Typically, you’ll pay $20 or $30 for every so-called courtesy overdraft, and maybe a $5 fee for every day the debt is outstanding (the $300 ceiling includes the fees). Automatic overdrafts take unfair advantage of consumers who don’t keep track of their accounts to the penny. At this writing the Federal Reserve is considering rules that would let you opt out of them.
There are three better ways of protecting yourself from bounced debits: (1) Link your checking account to your savings account, so that overdrafts will be paid with your own funds. There might be a $5 transfer fee. (2) Take the bank’s overdraft line of credit, paying maybe $15 a year plus a high rate of interest as long as the overdraft is outstanding. (3) Link overdrafts to your credit card, where they’ll be paid with a cash advance. Any of those options is better than courtesy overdrafts or bouncing a check.
College students are increasingly being offered prepaid debit cards in lieu of credit cards. The student or parent puts money onto the card, which the student can use until it’s gone. Then the card is loaded up again. The upside to prepaid debit cards: It’s all but impossible to incur an overdraft and run up fees. Students won’t graduate thousands of dollars in debt. The downside is that prepaid debit cards don’t help you build a credit history and they’re loaded with fees.
Unauthorized use: Here’s what you have to pay if your credit card is stolen and charges are run up: Nothing if you reported the loss to the bank before a fraudulent charge occurred. Up to $50 for charges run up before the theft was reported to the card issuer—and banks usually waive even that small fee. Nothing if you still have your card but your number was used fraudulently—for example, in a mail-order transaction or a transaction over the Internet. This covers both business and consumer transactions.
Billing Errors: You’re fully protected against consumer billing errors. Check all your bills—paper and electronic—for the following common mistakes:
You get someone else’s bills.
You’re billed for something you didn’t buy.
You paid the bill and shouldn’t have been charged any interest.
The bank sent an electronic payment in the wrong amount or sent a payment that you had canceled.
An item that you returned was never credited to your account.
When a store finds its mistake, it doesn’t rescind the interest you were charged.
You’re not charged for an item you bought. (That’s an honesty test; would you tell?)
You’re charged twice for the same purchase. (Now would you tell?)
The bill was mailed to your old address; by the time you got it, finance charges were due. (But you have to have given the lender the correct address at least 20 days before the end of the billing period).
Your bill was mailed too late to reach you before the clock started running on finance charges.
The item you ordered arrived broken and hasn’t been replaced, but the bills (and finance charges) keep coming.
The goods never came.
The goods came but in the wrong color or quantity, and you sent them back.
You refused to accept the goods on delivery.
The bill contains an arithmetic error.
An unauthorized person used your card.
Many credit card bills don’t include copies of your receipts. Instead you get a simple list of purchases, with the stores sometimes shown under a corporate name you’re not familiar with. Keep all receipts until the bills come in. That makes it easier to find mistakes.
To solve a billing error under the Fair Credit Billing Act, notify the credit card issuer immediately in writing that a problem exists. A phone call won’t preserve your rights.
The card issuer has to receive your letter within 60 days of the date your credit card statement was mailed. Send the letter to the address designated for billing errors, not the address where you pay your bills. Keep a copy of the letter. For safety, use registered mail with a return receipt requested, and keep a copy.
Give your name, address, and account number, a concise description of what’s wrong (with copies of supporting documents), the date of the error, and the dollar amount in dispute. Just give the facts; don’t moan and groan all over the page.
The card issuer has to acknowledge your letter within 30 days of receiving it and resolve the problem within 90 days. In the meantime, you can withhold payment for the item and the creditor can’t report you as delinquent. Any other charges on your bill, however, must be paid as usual.
If you turn out to be right, the disputed charge and any finance charges related to it will be taken off your bill. That’s called a chargeback. If the merchant claims the charge was valid, you can ask for supporting documents. If the merchant supplies them and you still disagree, you have three choices:
1. Pay the bill, including any late charges. This keeps a black mark off your credit record. You can sue the merchant for recompense.
2. Don’t pay, be reported as delinquent to the credit bureau, and risk being sued by the card issuer. Send a statement of your side of the story to the credit bureau, to be included in your file (although, frankly, that won’t help you much; statements don’t improve your credit score).
3. Don’t pay, assert that you received defective goods or services, and ask your credit card issuer to rescind the charge. If the issuer agrees that you were taken advantage of, it will charge the payment back to the merchant’s bank, and you won’t be reported as delinquent. This strategy will succeed, however, only if you meet all of the qualifications listed next.
Defective Goods: You might not have to pay if you received, and returned, consumer goods or services that weren’t what you ordered, came too late to be useful, or were defective in some way. You’re also protected if you never received the goods but were charged for them anyway. To go this route, however, you have to meet the following tests:
You used a credit card issued by the same store you’re having the dispute with, or …
You used a bank card such as Visa or MasterCard or a charge card such as American Express. In this case, the item in dispute must have cost more than $50. You also had to have bought it in your home state or, if not, within 100 miles of your mailing address. (Some card issuers typically waive the 100-mile rule.)
You purchased by phone, mail order, or the Internet from a company that advertises in-state or sent material (such as a catalog) to you there. Whether these transactions occur in-state depends on state law, but they normally do.
You made a good-faith effort, in writing, to resolve the issue with the merchant (unless the merchant is out of business). Keep copies of all correspondence with the merchant, including copies of e-mails and follow-up notes sent to confirm a phone conversation. Best advice: follow the rules prescribed by the Fair Credit Billing Act (see www.ftc.gov).
You’re complaining about a consumer purchase, not a purchase for use in a business.
You haven’t yet paid for the item or haven’t paid in full. Card issuers can erase outstanding bills, but they don’t retrieve cash from the merchant’s bank account.
Make your claim in writing (not by phone), supported by evidence that you tried and failed to resolve the dispute. The card issuer must investigate. Until the argument is resolved, the issuer cannot close your account or report you as delinquent, although it can note on your credit report that the payment is in dispute.
You’re allowed to withhold payment only on that one transaction. Keep making payments on anything else charged to the card.
If the card issuer takes your side in the dispute, it will charge the disputed payment back to the merchant’s bank. The unpaid amount, plus any finance charges, will be removed from your account. But you won’t recover any money you already paid.
If the card issuer concludes that the fault is yours, it may report you as delinquent. If you still don’t pay, it can turn the bill over to a collection agency. You, in turn, may assert any consumer rights you have.
You get full protection against unauthorized use and billing errors. But you can’t force a chargeback if you received defective goods or services.
Unauthorized use: If fraudulent charges are run up, here’s what federal law says you owe: up to $50 as long as you tell the bank about the loss within two business days of discovering it; up to $500 if you let 3 to 60 days go by before reporting the problem. If you wait more than 60 days after getting a statement showing the fraudulent charges, you’ll generally owe $50 plus everything charged to the card from 61 days on. Only a few states put lower limits on how much you can lose.
All this is irrelevant for most holders of MasterCard and Visa debit cards. Those issuers promise you zero losses on transactions that you sign for (but not on PIN transactions). There’s a caveat: your account has to be in good standing and you have to report the problems promptly. Otherwise the issuers can charge you as much as the law allows.
Billing Errors: You get roughly the same protection that you would with a credit card.
Defective Goods: Your level of protection depends on which card you have. With a Visa or MasterCard debit card, the bank will give you chargeback protection on defective goods and purchases that never came or that came too late to be of use. With another debit card, it won’t.
These issuers promise to treat you the same as the holders of their debit cards. It’s not required by law, however, and some issuing banks may balk.
If you lose the card, you’re generally out the money, whether it’s used by a thief or not.
If a thief cashes one of your checks and you sign an affidavit of forgery, the bank will pay. So you’re fully protected.
If you regret your purchase, you can ask the bank to stop the check. You’ll have to follow up your telephone call with a written stop-check order (by mail or e-mail when you bank online). There’s usually a fee. If the check slips through anyway, it’s the bank’s responsibility.
You can’t be denied credit solely on the basis of color, race, religion, sex, age, marital status, national origin, or the fact that you’re on welfare. If you are turned down for a loan or a bank card, it is probably because:
Many married women apply for credit based entirely on their own incomes and think it’s pure discrimination if they’re turned down. It’s probably not. They simply haven’t focused on how large their debts really are.
Take a wife who cosigns a mortgage with her husband. If he skips out, that obligation becomes hers alone. It would probably overwhelm her resources.
She doesn’t think about that debt as long as she’s well married, but her creditors do. If she tries to get credit based on her income alone, the lender will set off that mortgage against her paycheck and conclude that she can’t carry any more loans. The same would be true for a married man who couldn’t meet the mortgage payments were it not for his wife’s salary.
Learning this, some married women wonder how they will ever get credit “in their own name.” But they already have credit in their own names as long as the accounts they hold with their husbands were applied for jointly. At the credit bureau, all transactions will be reported in her name as well as his.
Married couples usually apply for credit jointly in order to get the benefit of both incomes. When a married person applies separately, it’s usually for a business loan. A bank can ask you for a cosigner, but it can’t demand that the cosigner be your spouse. What if your spouse has an interest in the property you’re putting up as collateral? The lender can require the spouse to sign a waiver allowing the property to be seized if you don’t pay, but that’s different from cosigning the loan itself. As a practical matter, however, your spouse is usually your best cosigner.
If you’re widowed and your credit cards were granted partly on the strength of your spouse’s income, the lender can require you to show that you’re still credit worthy. That is, if the lender finds out. Best advice: keep mum, and keep on using your cards. It’s essential, however, that you keep paying your bills on time. If you’re too distraught to open the mail and write checks, find someone who can do that for you.
The divorced can’t help revealing their status when they close joint accounts and ask for new cards in their own names. If your payment record has been good, creditors will generally issue you a card without question. But they’re entitled to put you through a credit check all over again. The lender must consider alimony as part of your regular income unless there’s evidence that it’s not being paid.
On a marital card, a spouse can be either jointly responsible for the debt or an authorized user, with the other spouse solely responsible for payment. You normally want to be jointly responsible, assuming that your spouse isn’t a spendthrift. That way you’ll share your spouse’s credit score. If you’re merely an authorized user, you’ll get a lower score. Still, that doesn’t necessarily work against you. Lenders say that authorized-user scores also work well, to predict how responsible a borrower you’ll be. How do you find out what your status is? The easiest way is to get a copy of your credit report, which will tell you who’s responsible for each account. How do you change your status? Write to the lender and request it. The lender may agree or may require you and your spouse to reapply for credit jointly.
If your spouse is a deadbeat, his or her bad habits will taint your own creditworthiness unless you can show that you lead a more responsible financial life. One possible way to do this: get a bank card or store charge card in your name (a friend or parent may have to cosign it), keep it solely for your own use, and keep the bills up to date. You can show that account as proof of your personal reliability. Similarly, buy a car yourself (or with a cosigner) and make all the payments on it—in full and on time. It will show on your credit history as your own debt. Finally, don’t cosign any of your spouse’s loans or credit cards. If circumstances allow it, you should cancel the cards and credit lines that you’ve cosigned already.
Older people often feel that they’re being discriminated against. More likely, it’s that their clean lifestyle doesn’t fit the profile of a good credit risk. Here are several eye-opening cases that were supplied to me by the AARP:
Ray G., age 71, retired businessman, was refused a Visa card because of his “limited credit experience.” His mistake: when he retired, he paid up everything, dropped all his credit cards, and started living on cash. Six years later, when he wanted a credit card to travel with, he no longer had sufficient credit history.
Martin K. couldn’t get a Discover card because he had too many other cards. That made him sore because nine of his cards he never used, but how was the lender to know that? If you have accumulated a lot of cards over the years, get rid of all but two or three of them.
Evelyn L., 75 and widowed, was turned down for a card because she had no credit history. She had always paid cash for everything, a way of life handed down to her by her parents. In old age, she wanted a credit card for catalog shopping but couldn’t get one.
The moral of these stories is to get a card when you’re young, working, and laden with debt—the very customer the lenders want. Keep that card for when you retire or are widowed, even if you don’t use it very often. The time may come when you’ll want it again, and it’s hard to recover your credit once you’ve given it up.
None of the turndowns just cited were illegal. They were all based on legitimate credit criteria, not on age. But consider the following stories:
Marjorie W., 68, bought a travel trailer on an installment contract. Later, the dealer called and canceled because the finance company wouldn’t lend more than $6,000 to someone over 65.
Robert M., 72, was denied a loan because his bank wouldn’t lend to anyone over 70.
Martha P., 71, was rejected by a finance company because she didn’t qualify for credit life insurance.
All of these lenders broke the law. You cannot be turned down for credit solely on the basis of age. Nor can a lender set different terms for older people than for younger people in the same situation. A lender is allowed to consider age only if it makes a proven difference to creditworthiness. For example, if a 75-year-old applies for a 30-year mortgage, a bank might legitimately ask about his or her future cash flow or request a larger down payment. But the senior can’t be turned down if the loan would be granted to a younger person with the same income and assets.
What can an older person do if he or she no longer has a credit history? Ask a major store where you shop for a charge account. Use it for a while and then ask for a credit card where you bank. The card might carry a higher-than-average interest rate, but that doesn’t matter. You’re going to pay all your bills on time, right?
Tip: Older people should consider putting a security freeze on their credit accounts (page 272). You’re not likely to be opening new accounts and the freeze will protect you from some forms of identity theft.
Don’t hide. Don’t cry. Don’t shove unopened bills into a drawer. Don’t have your cousin tell the bank that you’ve gone to Sicily for the summer. That won’t help. Someone—probably a bill collector—will find you and you’ll be in more trouble than you were before.
What’s your biggest problem when you can’t pay your bills? Money, you say. I say it’s fear. You’re sure that everyone will point and sneer. Your son will be kicked out of Boy Scouts. The police will hang you up by your thumbs. But nothing like that is going to happen. You’re not Jack the Ripper. You don’t beat up babies or set fire to cats. All you did wrong was to buy more things than you can pay for right away. That’s an error in judgment or change in circumstance (maybe you lost your job), not a sin. You will pay eventually, and your errors will be forgiven.
If you can’t pay your credit card bills, call your lenders and tell them so. You’ll need to negotiate a payment plan. To do this you need: (1) a spending plan showing how much money you need to live on (page 189); (2) a repayment plan showing how much you can spread among your creditors every month; (3) a specific offer for each creditor, as in “I will pay you $50 a month and clear up this bill in two years.” If your situation is dire, offer your unsecured creditors a settlement—say, 50 cents on the dollar.
Each creditor will want more. But if you hold firm and keep making the payments you’ve decided on, they should eventually accept the deal. If someone threatens to sue, don’t ruin your rehabilitation plan by trying to accommodate him. Keep on talking, keep making your payments, even go to court. No judge will order you to pay more than you can afford, and your creditors know it. Your strengths are three: the lender would rather stretch out payments than write them off, it’s cheaper to talk than to hire a debt collector, and the interest you pay is compensation for the delay. If you’re talking to a debt-collection service, make them an offer for only part of what’s owed. If you wait long enough, they’ll eventually accept.
If you can’t handle these negotiations yourself, or if you’re such a spendaholic that you find yourself hurtling toward bankruptcy, nonprofit credit counselors can help. Lenders might even direct you to a counselor rather than accept the spending plan you drew up.
Professional counselors give you moral support. They help you develop a budg—, er, I mean, a spending plan. They talk to your creditors and get them to waive late fees, accept smaller payments, and reduce your total debt, provided that you stop using the cards. Once the size of your debt is pared down, you’ll usually be enrolled in a debt management plan. You’ll pay a lump sum into a trust account each month (be sure it’s a trust account, separate from the funds belonging to the counseling firm!). The counselor will divide your payment among the creditors who agreed to join the plan. Note that this is not a debt consolidation loan, it’s simply a convenient, one-stop way of getting your creditors paid off.
Nonprofit counselors charge modest fees and work with you in person, by phone, or over the Internet. Their basic budget consultation is often free and may be all the help you need. If you enter a formal debt repayment plan, they charge enrollment fees of up to $75, monthly fees in the $10 to $50 range, and zero for clients with low incomes. They normally handle only unsecured consumer debts such as credit card bills, not business debts or secured debts such as mortgages or car payments (although some offices will negotiate lower payments on mortgages too).
For the name of a local nonprofit counseling agency, ask the debt collection office of your bank or credit union; your city’s department of social services; the National Foundation for Credit Counseling (NFCC) (www.nfcc.org or 800-388-2227 for an office near you); or the Association of Independent Consumer Credit Counseling Agencies (AICCCA) (www.aiccca.org or 866-703-8787). You can work out a repayment plan over the Internet, by phone, or in person. Talk to at least two different services to see what they offer and what they charge. Low-cost counseling services are funded by credit card companies, whose interest it is that you pay as much as possible on your debt. But you and your creditors have the same goal: to rescue your finances before you fall into bankruptcy.
Don’t be afraid to ask for help. Thousands of people share your problem. Counselors have seen it all and consider it their job to haul you out of the pit.
Do not pay a firm that offers to straighten out your debts in return for a percentage of what you owe. Do not sign up with a service that takes your first monthly check as payment, in addition to monthly fees. Do not assume that a “nonprofit” is always a good guy. Hang up the phone if you feel that you’re getting a hard sell or extravagant promises of relief or if the counselor is vague about the fees. Don’t believe Internet ads telling you that debt clearance is easy. Stick with counselors on the NFCC or AICCCA rosters.
What About Your Credit Score? Accounts that were behind when you entered counseling will still show as behind and drag down your score. But as long as you keep up your payment plan, you shouldn’t suffer any further damage. Some creditors flag your account if you’re in counseling, but that doesn’t affect your FICO score. When you complete the program, some creditors will “re-age” your file, showing that all payments are up to date.
If Negotiation Doesn’t Solve Your Problem, Consider Bankruptcy. There are two ways to go:
1. Chapter 13, known as the wage earner plan. It stops your creditors from hounding you and lets you keep your property while you start on a formal, court-approved plan to pay at least part of your debts over three to five years. Make this choice if your troubles are temporary—for example, you were out of work but now have a job with money coming in. The plan lets you catch up on mortgage payments, which may be your key concern.
Your only choice might be Chapter 13 if your income appears to be high enough to cover at least some of your debts. The law measures your current monthly income against your state’s median income for a family of your size. If you’re above the median, a means test will be applied. Certain expenses and debt payments will be subtracted from your income. If there’s enough left to pay some bills, you’ll have to enter a wage earner plan. For a calculator that helps you find out whether you’re destined for Chapter 13, see LegalConsumer.com at www.legalconsumer.com.
2. Chapter 7, for people too deep in the hole to climb out. Most of your unsecured debts will be canceled, such as credit card and medical bills. You might or might not be able to keep your house or car, depending on their value and your state’s law. You’ll definitely lose them if your mortgage and auto-loan payments are not up-to-date.
Get good legal advice from a bankruptcy specialist. It’s risky to read a book and try to do it yourself because you might miss something of advantage to you. For details on your state’s bankruptcy rules and how much property you can exempt, see BankruptcyInformation.com (www.bankruptcyinformation.com).
Certain debts normally cannot be discharged, although there are some exceptions to the rules. These debts include student loans, child support, alimony, most taxes, loans you didn’t mention on your bankruptcy petition, criminal fines, loans granted on the basis of untrue financial statements, and court judgments for certain damages, such as an accident you caused while driving drunk. You also can’t get out of loans taken just before bankruptcy to buy luxury goods and services (that’s the “no-last-minute-BMW” rule) or big cash advances (the “no-last-minute-Caribbean-vacation” rule). If you owe money to a relative or friend, you can’t pay it off if that leaves your other creditors empty-handed (the “no-rescue-for-brothers-or-cosigners” rule).
Before entering either type of bankruptcy, you’re required to receive budget and credit counseling.
Go bankrupt before you go broke! It’s painful and humiliating even to consider bankruptcy, let alone join that crowd in the courthouse corridor, waiting for your name to be called. Normally, I’d say suck it up, cut your spending, and repay your consumer debts. But that’s not always possible, especially if you’ve been out of work for a long time or have huge uninsured medical bills.
Most families, honorable to the end, struggle longer than they should. By the time they give in, they’ve lost assets that they could have used to start over again. That defeats the point of bankruptcy—to stop the self-blame and hopelessness that go with bad luck and give yourself a second chance.
The right time to go bankrupt is when you’re financially stuck but still have assets to protect. For example, it’s a mistake to tap your retirement accounts to make minimum payments on monstrous bills. IRAs and 401(k)s are largely protected in bankruptcy, as is most of your child’s 529 college savings account. That money is your future. Leave it alone and use credit cards for your necessities. Card issuers know that some of their customers will fail. That’s why they charge elephant fees.
Your health is your future, too. You’re doing your family no favors by forgoing medical treatment because you can’t pay. Bankruptcy eliminates medical as well as consumer debt.
Bankruptcy can even help you save your home, especially when its value has dropped and your mortgage is under water. You’re allowed to keep a limited amount of home equity in most states. If the house is worth less than the mortgage plus your home equity exemption, you can file for Chapter 7 bankruptcy, wipe out your consumer debts, and still keep your home, provided that your mortgage payments are up to date. If your house is worth more than the exemption, however, or you’re behind on your payments, it will likely be sold.
You can use Chapter 7, the most popular type, only once in eight years. So before you file, draw up a “no kidding” plan for living on your income when you’re finally clear. If you’re out of work, try not to go bankrupt until you have a new job and can see what’s ahead of you.
Don’t try to preserve your house if you’re going broke. Stop making payments, stay there while foreclosure is under way, then move out and rent. If the mortgage is under water, you’re already functionally renting because you have no equity. In theory, many states allow mortgage lenders to chase you for the sum still owed after the house is sold. But that’s rare. Lenders know that you probably can’t pay.
Foreclosures stay on your record for seven years and bankruptcies for ten. If you reestablish good bill-paying habits, however, you may get decent credit even sooner. And you’ll start fresh, which is what bankruptcy is about.
Tax Note: If your creditors forgive part of your debt, the IRS will treat that amount as taxable income. You’ll receive a Form 1099-C. It’s reported as “other income” on your tax return. The IRS may negotiate a lower payment, however, if you’re insolvent or broke. You do not owe taxes on debt discharged in bankruptcy. Through 2012, you also owe no tax on up to $2 million in mortgage debt on your principal residence that was canceled as part of a mortgage restructuring or foreclosure.
Gyp Note: Creditors are finding unfair (even illegal) ways to force you to pay debts that bankruptcy supposedly wiped out.
One ploy: They offer you a new credit card if you’ll agree to pay what you owed before the bankruptcy. Don’t agree! You’ll find other cards.
Another ploy: They won’t remove your discharged debt from your credit report, arguing that no law requires it. You might not be able to get a mortgage or other loan as long as the debt still shows. They’re trying to force you to pay the old debt, even though you don’t owe it anymore. To fight, write to the creditors, with copies of your bankruptcy papers. If you’re ignored, get a lawyer to write. Sometimes that helps. Sometimes you’re still ignored by these disreputable debt collectors, which, by the way, include some supposedly blue-chip banking names. Reject their wickedness. Don’t pay.
Yet another ploy: They sell your debt to vulture collectors who harass you and your relatives until you pay. That’s illegal too, but it happens all the time. Your legal so-called remedies are to write a letter telling them to stop, which they might thumb their noses at. Or to sue, within a year of the illegal action. Or to send a complaint letter to the Federal Trade Commission, Consumer Response Center, 600 Pennsylvania Ave NW, Washington, DC 20580, or via the Internet at www.ftc.gov (click on “Consumer Protection,” then on “File a Complaint”). The FTC collects data on abuses but won’t do anything for you.
Quit buying on credit if:
Credit card issuers have developed sophisticated systems for identifying borrowers who are likely to default. They call it behavior scoring. Here are six of the warning signals that creditors look for:
If this describes you, your number one job is to get out of debt. Only then can you start getting rich.