No Debt Plan

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I was planning on talking about buying a scooter to save on gas costs today, but I got an interesting comment yesterday that I felt warranted discussion.

The comment was left on my post about earning more than $400 in free cash back using my credit card. I said in the post that I think Dave Ramsey is flat out wrong for his anti-credit stance. Here’s the comment:

Nice try trashing Dave Ramsey for no reasons. I sincerely request to think twice before you trash him again. He is not preaching to cut plastic or get out of debt for normal people like me and you who manage debt prudently. His target audience is way over the head in credit card debt and their finance charges for one month is greater than your annual cash back from Amex Blue. For people like these it makes perfect sense to not use credit card. Think about it before you cash in your rebate check next time - Amex/Discover charge about 3% for gas station operator, you are paid 5% rebate for charge the gas expense to their card - guess what - the rest of 2% is paid to you from the 29% interest rate and insane finance charges and cruel penalties these credit card companies charge to people who are already in deep trouble. Pick up the documentary “In debt we trust” from the local library and open your eyes.

For starters, I’m glad this person commented on the blog. It opens up the discussion, and heck, I love getting opinions that challenge my own. So I am not writing about this to just rip this person’s argument apart or anything. I just disagree.

Dave Ramsey is a big name author and radio personality in the personal finance world. He went through very hard financial times in the 1980’s and has bounced back to make millions of dollars. He has written several popular books, and always tells his listener’s to stick with his “Baby Steps” to financial freedom.

Here are those baby steps:

1. $1,000 to start an emergency fund
2. Pay off all debt using the debt snowball
3. Save up 3-6 months of expenses
4. Invest 15% of your income into Roth IRAs and other pre-tax retirement vehicles
5. College funding for children
6. Pay off home early
7. Build wealth and give; invest in mutual funds and real estate

Now that all seems well and good on the surface. And I agree with the commentor’s point — Ramsey’s system is not designed to be used by me. I have a handle on our finances. His system is the life buoy thrown from the coast guard ship to the people on the sinking vessel who don’t know how to get out of their situation. I buy that.

And I am also not arguing against the point that his system gets people out of debt. It does. But, like any system, it has flaws and could be improved. I have three major beefs with his system.

First, Dave wants you to pay off all of your debt with the debt snowball. For those that are not familiar this is where he tells you to pay the minimum payments on all of your debt, and any extra money you earn or find gets applied to the debt with the lowest balance first. He claims that finance is 80% psychology, 20% money or something like that. Paying off a few small bills give you a psychological boost to tackle the big debt.

While that may be true, it is mathematically flawed and ends up costing you money. A simple example: you have two credit cards with balances of $1,000 and 3,000. Card A ($1,000) has an interest rate of 9.99% and Card B ($3,000) has an interest 23%. Dave wants me to keep paying 23% interest while I knock out the first card. That makes absolutely no sense and is costing me money along the way.

My second beef with Ramsey is that he wants you to do steps 5 and 6 before step 7. This isn’t a major concern of mine, but I don’t think children’s education should come before retirement. For some people, saving 15% will set them up for life when they retire. For others, not so much. You can’t borrow for your retirement. You can borrow for your kid’s education. Remember that.

The third concern I have with Ramsey is his anti-credit card stance. This is my largest issue with the Dave Ramsey system.

I understand that there are people out there in the world that simply cannot manage a credit card safely. For those folks, I have no problem saying you should use cash and debit cards for the rest of your life.

However, I don’t understand why Dave’s system starts with getting out of debt and stopping the use of credit, and ends with building wealth… but continues the theme of not using credit. If his system was there to truly rehabilitate people, he would train them how to safely use credit.

This may seem minor to some people. So you’re missing out on $400 of free money per year. Big whoop, I can deal with that. But there are many extra benefits to using credit cards and if the person following his system is truly following it to a T, then it applies just as well to credit cards as it does to cash and debit cards.

The bottom line for me is just because I have a credit card, I don’t have to use it to buy things on credit. Technically, yes, I do. But I have the money sitting in my bank account waiting to pay the bill. So use your credit card like a debit card or a wad of cash. It’s all the same. It’s a representation of money. Again, I’m not saying every person on his plan could handle it. Obviously many can’t in our country. However, I think one of the final steps should be to reintroduce people to credit in a safe manner.

There are so many benefits to credit cards it just seems silly. I’ve talked about them in the past. It helps automate our finances. I pay most of our normal bills with the credit card (electronically), and pay one bill to the credit card company (electronically) at the end of the month. I’m not sending ten envelopes with checks to various companies, trying to time them correctly so I don’t overdraw my checking account. I get security when I travel or buy things online. If my card is stolen, no big deal. American Express steps up to the plate and takes care of me. If I’m on my honeymoon in Mexico and someone steals all of my cash… well, that’s a different story.

Dave Ramsey is a Great Guy

Let me finish by saying I like Dave Ramsey. He’s a Christian influence in the personal finance world. He’s a huge Tennessee Vols fan. We have a lot in common. But I do think that his system — like any system! — has it’s flaws.

What do you think? Is Ramsey a nut case, financial genius, or something in between?

A recent article in Money magazine highlighted a group of families that had recently given up credit cards. The slideshow is titled “They cut up their credit cards.”

Let me reiterate what JD Roth at Get Rich Slowly says a lot — do what works for you. Make progress, make good decisions, but do what works for you. If credit cards work for you (as they do for me), then use them. If you fear credit cards or know you can’t handle them then by all means eliminate them from your life.

But I’ve got to protest something mentioned in the 2nd family’s profile in Money magazine. Matt and Gina Hutter. They completely removed credit cards from their lives, relying instead on cash and debit cards. Okay, no problems thus far. Then this gem pops up:

The Glitches: When Matt tried to buy a $5,700 PC online with a debit card, he ran into his $2,000-a-day spending limit. Because he has good credit, his bank lifted it.

Come again? W-w-what?

A $5,700 PC? Are - you - out - of - your - mind? Thats 5 to 10 times greater cost than your average computer. I did a quick search of Alienware.com (they make ultra highend gaming PCs). Most of them ranged from $999 to $2,000. They did have one model, the Area-51 ALX Extreme Gaming Desktop, that starts at $4,599; more than double any of the other computers offered. And Alienware computers are what I would regard the most expensive PCs on the market! Add $1,200 to that high starting cost to get what this guy paid for a computer.

Maybe he got an Apple? The Mac Pro starts at $2,799 and can easily be configured to go much higher — into the $5000-6,000 range. But you’d better be doing quantum physics modeling or full on professional video editing that requires that kind of power or you’re just wasting money.

A $5,700 computer? Are you kidding me? Granted, Money does not mention how much the Hutters earn each year. But I think we can all agree that unless you are pulling in the salary of CEO at a large firm (that is, the point where money isn’t a concern ever again), then a $5,700 PC is a bit much. Yes, that’s an understatement.

Credit Cards Are NOT the Problem!

This goes back to some main points I’ve made on here in the past. Credit cards are not evil. They are a tool. You can misuse the tool, or use it wisely.

The issue is how to control your spending. It doesn’t matter if you pay by cash, check, credit card, debit card, pesos, dollars, or euros. If you’re spending money foolishly — on a $5,700 computer, a Gucci handbag, or a Ferrari — you’re spending it foolishly. It’s not the method of spending that matters. It’s the spending.

(Yes, I will reiterate this point on this blog until the end of time if I have to.)

I know, I know. “Credit cards encourage you to spend.” I’ve heard it all and I don’t buy it. Get some self control, sit down and think before making a purchase. They can encourage me all they want. Good for them.

Look at your credit card like a debit card and see if anything changes. Honestly folks, if your credit card was really just a debit card, would you run out of money very quickly? The type of card you hold in your hand shouldn’t really matter. Just because it says American Express or Visa on the side doesn’t make it any more special than a debit card.

Still having problems? Maybe your spending habits are to blame rather than the credit card company.

I’m excited to announce that we have officially earned more cash back than last year by a mere $2.71. We’re up to $434.86. I think this was the last time it will update our cash back until it arrives on our statement (that is, I think the card-year is over)… but I could be wrong. It might be one more month which would equate to even higher cash back.

Right now we are standing right at 1.85% total cash back on our American Express spending. Yes, we charge a lot. No, we’ve never pay interest.

Remember, we’re earning free cash back. And you thought credit cards were stupid, Dave Ramsey! As far as I know, my debit card isn’t about to hand me $400 in free money.

Who else is earning cash back on their credit card? What have you earned so far?

And stick around. Tomorrow I will show you an example of why credit cards aren’t the problem — your spending habits are.

“There is nothing to fear, but fear itself.” - Winston Churchill

Don’t fear credit cards. They are tools, just like backhoes, garden hoses, and scissors. All of the those items could be considered deadly and dangerous in specific situations. The same holds true for credit cards. They can be used for good and bad.

The good:

• Paying all of your bills, earning cash back. We’ve earned almost $400 this card-year. Free money.
• Having fewer checks to write to different companies every month. If you pay all of your utilities with the card, you write one check/send one electronic payment to the credit card company. This greatly simplifies our life. We still have a few bills that won’t take credit cards, but it has greatly reduced the number of checks we write.
• Setup for automatic bill pay, and things get even easier.

The bad:

• Carrying a balance is stupid unless absolutely necessary. And the only thing I consider absolutely necessary would be a near-death medical expense or natural disaster where you can’t get to your computer/bank account to pay the bill.
• Finance and interest charges from carrying a balance are just flat out silly. Your money/bank should pay you with interest, not the other way around.
• As I mentioned above, if you absolutely must carry a balance then try to find one with low interest. A plain jane credit card will probably be better in terms of interest than a rewards card.
• Bottom line is the credit card company keeps you as a company to make money off of you. Be aware of this, and tread carefully.

Other Tips:

• If you are having problems with your credit applications, it usually helps to call and talk to a representative directly. When I got my first credit card (with no real credit, since I had just graduated college), that worked for me.
• Some companies offer instant credit approvals as well. You might try taking them up on the offer, but be careful with the fine print.

The following is a guest post by Tisha Kulak. She is a writer for Creditorweb.com, where she writes about credit card offers, finances, credit cards, and responsible credit card use.

Time and time again, we have been faced with the raising prices of nearly everything. From housing to food, from utilities to child care; the economical situation only seems to be escalating from bad to worse. It is beginning to affect nearly every individual and family across the country, especially those on fixed incomes and those who require medical treatment and prescription medications.

Rising healthcare costs prevent millions of people from even seeking treatment in the first place, which actually created worse health situations. Those who do go forward and fin medical attention must then deal with the high costs associated with their health issues.

So what do you do if you need medical attention but do not have the money to pay for it?

Should you charge it?

Using credit to pay for medical care, especially ongoing health treatment that you can pay off will leave you with bills that are significantly increased due to the interest that is tacked on each month. Add that interest with other card fees and penalties for going over the credit limit of the card will not only leave you drowning in ongoing debt, you will also be left with a very unhealthy credit rating

Work Out a Payment Plan

Well many people who have the ability to pay medical expenses with a credit card will do just that. However, that avenue will lead many down a path of deeper debt and stress. If you find you are in need of medical attention, try instead making payment arrangements with the health care provider of facility. You will end up paying much less than if you charged it and can not make more than the minimum payment each month. The only way you should pay for medical costs on a credit card is if you are certain you can pay off the entire balance at the end of the month.

Find More Alternatives

In addition to the payment plan option, you should also explore other avenues, such as government medical assistance programs, free community clinics, facilities that work on a sliding scale where payments are based on your income, or try other local medical assistance programs in the area in which you live.

Compounding health issues with poor financial situations out of desperation will only make each problem seem that much worse. Plus the negative effects of stress and anxiety over financial issues will make a big impact on your already problematic health issues.

Readers, what do you think? Should you charge medical expenses?

We use our American Express Blue Cash card to pay for just about everything. I’m practically a walking billboard for the company — I love our Blue Cash card. Our card year runs August - July, if I remember correctly. With the Blue Cash card, cash back rewards are on two-tiered system. You earn one percentage for groceries, gas, and drug store purchases, and a separate lower percentage for everything else. The tiers look like this:

Tier 1: $0-6,500 in charges: 1% gas, groceries, drug stores and 0.5% everything else

Tier 2: $6,500.01 or more: $5% gas, groceries, drug stores and 1.5% everything else

If you never carry a balance, this is a fantastic card to use. You are guaranteed to earn a little bit of money on every single purchase. However, you must remember to pay off the balance every month. Carrying a balance will incur interest charges, which effectively are reducing the cash back benefit for you.

Last year we earned somewhere around $432.17 worth of cash back. Last (card) year was a big year for us — we got married, went on a honeymoon, etc. This (card) year has also been a pretty big year for us, too. We bought a house last September and of course that involved a lot of charging to buy supplies, furniture, and all the knick-knacks to go with a house.

So far this year, we’ve earned $375.61! Back in March we had earned only $279 in cash back — so a nice increase. This is all for using our credit card just like we would a debit card. Gas and grocery prices have been increasing as well, but at least it is nice to know that we are earning a little bit of that money back. We didn’t pay for another honeymoon, so I’m not sure if we will beat our original cash back amount from last year, but we’ll see.

A quick reminder: credit cards are not evil. Credit cards are a tool, just like anything else. I love my AMEX card because it garners protection for my purchases online and offline and gives me a single payment for a majority of purchases. On top of that, no one has direct access to my bank account if the card is stolen.

Strangely enough, the day I wrote this article CNN Money put up one called “Raw Deal: Rewards programs are a real ripoff“… something I disagree with greatly. They may be complicated, and there are a fair share of bad ones out there… but they are not a rip off.

Someone explain to me how $400 in cash back — free money for every day purchases — is a rip off. And don’t tell me it’s because we spend more than we would otherwise because we stick to a budget!

One of my readers sent in a pretty lengthy article describing his experience with debt. I really enjoyed it so I thought, with his permission, I would share it with everyone. I’ve broken it up into sections to add my comments. I hope you find his story inspiring.

I am sure my story is like a lot of folks. During college, I racked up a lot of debt. By the time I graduated, my wife and I were in about $40 thousand. Like many people, I bought a few toys here and there, but even still I can’t associate every dollar of debt to a specific thing that I purchased which is the thing about debt. IT JUST SNEAKS UP ON YOU! Another thing I noticed about debt is that all the new items that I purchased began to wear out or become outdated with newer versions. However, I couldn’t replace them because I was still paying for them.
My wife and I were really stressed out about our situation. We were living beyond our means and going negative every month. We had a big mortgage and no emergency fund. So, when an emergency occurred as they inevitably will, we simply spiraled further into debt. I can still remember my wife literally crying when it came time for her to do the bills. Yes, you read that right! This is one of my regrets in life. I was lazy and let my wife assume responsibility for our finances which we both should have been doing together. Here is a life lesson, free of charge. I can’t explain how important the next couple of sentences are. If you are married, you should join your money in the same account and pay the bills TOGETHER. That way you both will always know what is coming in and what is going out. We started to do this, and it eventually turned into our budget.

He makes some excellent points. It seemed so easy to get into debt, and it kind of felt like a sneak attack. On top of that, a large portion of the debt was for stuff that wore out over time. We’ve talked about this: depreciating assets and credit don’t mix. Living beyond your means is a recipe for failure. You need a plan. You need to be cash-flow positive every month. You need an emergency fund.

Another huge tip listed here is to work together as a team if you are married. One spender and one saver can live in the same household, but compromise is key. And the saver should probably win more than the spender!

A budget was extremely important to our success. This is how my wife and I were able to see exactly where our money was going. We were able to cut costs this way and save a $1,500 emergency fund. We were so committed to a better future, we got crazy with it! We sold our home and moved from a large city back to our home town, and lived in a one bedroom apartment. We allowed ourselves $20 a week for spending money. I taught my wife how to cut my hair which saves us over $300 a year. I’m going to start laughing if I see a lot of husbands with bad hair cuts after reading this! We lived in an area with great cell phone service which means no need for a home phone. I shopped car insurance. I’m sure you’re getting the point by now. In addition, I wanted to increase my income so I took on a second job. This was really hard on me, because I was working 16 hour days! Like I said, we got CRAZY with it.

Budgeting is absolutely essential to getting back on the right track, to fight off that debt.

Hey — my wife cuts my hair, too! At $15 per cut and 17 cuts per year (roughly every three weeks), that’s $255/year at the very minimum.

Once we began to really focus on where our money was going, we began to find money to start chipping away at the debt. We planned our attack. First, we wanted to consolidate our high interest credit cards. I’m not recommending this path to everyone, but this is what we did. My wife and I had good credit so we were able to consolidate our high interest cards onto a no interest card. The new credit card was interest free for one year assuming all the terms were upheld. We were so concerned every month about making that payment in order to avoid paying the default rate and back interest. Sometimes we even made double payments on it just to make sure we didn’t miss a payment. People, that was stressful. After the credit cards were paid, we were really on fire. The momentum picked up and we started in on the next part of our debt. We had previously borrowed money from my wife’s parents but were not able to pay them back due to our “money problems”. It is never a good feeling to owe money to loved ones for an extended period of time. I want to thank them for being so patient with us, because it took so long to start paying them back. With focus, determination, and of course hard work, we paid them back faster than I ever thought possible. It surprised us both. The last portion of our debt we tackled was my wife’s car.

The 0% credit offers are risky, but if you stick to it it can definitely pay off in spades. Imagine going from 20% interest rates to 0% — you could really take a chunk out of the principle if you made consistent extra payments.

During this entire process we continuously fine tuned our budget and were always looking for ways to save money. We weren’t always moving forward either. We had a few setbacks that required us to dip into our emergency fund but we didn’t let that stop us. Mentally, when things were hard, I would sometimes question whether I was doing the right thing by being so fanatical about the budget and the debt. However with each portion of debt that was paid off, I was seeing the results which kept me going. You have to be persistent and be very dedicated with your goals, because I am not going to lie. It was very, very, very hard but so worth it in the end! Some of the things that kept us motivated included reading books on finance and debt freedom. Also, through this process my wife and I realized how great of a team we really are. Instead of fighting over why we didn’t have any money, we pulled together to find ways to save. We had more to talk about. We shared the feeling of success for a job well done at each small victory. They say the mismanagement of money can tear a marriage apart. Boy, don’t I know that. What I didn’t know was that forming an alliance and defeating the debt together could build that same marriage ten times stronger.

I think this is what Dave Ramsey is talking about when he talks about the psychology of paying off debt. Those small victories start to add up and give you momentum to pay off that next debt.

I also knew I had to plan for the day that I didn’t have any debt. That day is here and I am currently in the process of building a larger emergency fund up to $10 thousand. After that, our next step will be to save for a house.

My experience with debt has been an enlightening journey. However, I am now troubled by how many people this epidemic affects. This burden can ruin marriages and add so much unnecessary stress in one’s life. Alarming levels of debt seem to be an acceptable part of our society. When you stop and look at the destruction debt leaves in its wake, I dare say that it is not acceptable. My hope is that this topic will continue to gain attention and spotlight until there is a new social norm. Just as once upon a time it was perfectly acceptable in society for people to smoke on airplanes and in offices, today smoking has been all but eliminated in many buildings and establishments. With the focused attention on this epidemic, I hope that we will begin to teach ourselves and our children about money. Learning about the opportunity cost of taking on consumer debt, because we really are trading our well being for things. And finally, I hope that my journey can spark someone to act today to begin this journey for themselves.

So there you have it!

What do you think? Is your story similar or drastically different? Did you learn anything from this reader?

I hope this article shows just one person out there that might be thousands of dollars in debt that you can get yourself out. It takes time, hard work, and determination… but you can do it. This reader did.

One of my good buddies, Michael, asked me a question online the other day. He mentioned he really enjoyed the “Only Buy Appreciating Assets on Credit” and “Credit Cards and Depreciating Assets Don’t Mix” posts. To summarize these posts I said a major problem with credit cards is people use them to buy assets that are worth less the day after they buy them, rather than worth more. An example is buying a plasma TV that you pay $1,800 for and 6 months later it is worth $1,200. That’s just silly.

However, he did have a question that will help me clarify the issue.

I loved your appreciating assets post. However, I had a question about using credit cards. If I use my credit card to buy groceries and gasoline, but pay it off at the end of every month, is that okay?

I have long been a proponent of using credit cards to simplify your financial life (one payment vs. several) and to earn cash back (or other rewards) for every day spending.

I did not make that clear in the two posts referenced above.

So, to clarify. When I say don’t buy depreciating assets on credit what I mean is don’t finance depreciating assets on credit. I define financing as carrying the balance on the credit card and paying interest/finance charges for the item. If you pay off your balance at the end of every month — and thus enjoy rewards without penalties — then go for it.

Recently my fellow personal finance blogger, All Financial Matters, shared an unfortunate fact with his readers. Your warranty is only as good as the manufacturer holding the warranty.

If you have a roofing company install a new roof on your house, it may come up with a 25 or 50 year warranty through the company. That’s all well and good, but if the company is a ten man small company it faces up hill odds to survive 50 years to serve your warranty.

Now if the roofing material company — the manufacturer of the shingles — happens to offer a warranty, and is a large reputable company, you are much better off. I’d rather buy a GE roof than a Jimbo’s Roofing and Tax Services roof.

Another way to protect yourself is to extend your current warranty. There are two ways to do this:

• purchase an extended warranty
• use a credit card that automatically extends the original manufacturer’s warranty

I do not recommend buying an extended warranty. There may be specific cases where the aftermarket extended warranty is worth something, but I think it is rare. I used to work at Office Depot and we were pushed to sell the extra warranties. Why? Because the company made a ton of money off of them. (Remember, insurance companies rarely lose money. This is why you never buy an investment from an insurance agent.)

However, if you use a credit card like I do… namely, responsibly and never carrying a balance. If you can manage this then your credit card company may automatically extend your warranty for you. Different credit card companies offer different benefits deep within their fine print. We use American Express’ Blue Cash. One of the benefits touted by the company is the automatic extension of your product warranty by one year. I think it relates primarily to electronics; again I would need to double check the fine print.

There may be specific steps that need to happen for your card company to offer this benefit. It depends on the fine print, but you might have had to pay for the entire purchase on your card (so no gift cards involved) or have carried the balance for one month. The former is no big deal, the latter pretty much wipes out the benefit of the warranty extension.

A warranty is also useless if you cannot prove you have a warranty in effect with the manufacturer. Those warranty cards that come in some products can be handy. Remember to keep invoices, receipts, and any other documentation you might need to prove that you bought the product new and it is still within the time frame laid out in the warranty.

Four Steps to Achieving Warranty Success:

• Buy from a reputable company/manufacturer with a long history, solid product, and the ability to cover your warranty during the warranty period whether it is 3 years or 50 years.
• Avoid aftermarket extended warranties. The cost is usually too high to provide meaningful benefit to most users. The simple fact that companies push their workers to sell these should be enough to show you they are highly profitable for the companies and not you.
• Read the fine print on your credit card. Your warranty may be automatically extended for you for no additional cost.
• Keep good records. A warranty is useless unless you have records showing when you bought your item as well as the warranty card (and any other required information like invoice, etc.).

(Photo by zappowbang)

‘ve said it before in the past, I’m not afraid of using a credit card.

A quick run down of the benefits of using a credit card and paying off the balance every month:

• Purchase protection both online and offline
• Fraud protection both online and offline (if your card is stolen and you report it, you owe usually at most $50)
• It makes budgeting easier by reducing the number of places you send a bill. I charge almost all of our utilities to a credit card, then pay off the credit card. This also saves me on postage.

Granted there are risks. If you carry a balance, that’s just silly. Paying an annual fee is also silly.

I haven’t discussed this in the past, but there are lots of different places you can find a credit card. You can go to each provider’s website (AMEX, Chase, etc.) and look at the options. But you can’t compare across sites, at least not easily.

At All about credit, you can do just that. It’s a huge database with different credit cards. You can pick and choose to decide which one is best.