Question for the Dave Ramsey reducing debt folks

[Russ Smith]

Having a conversation with a friend yesterday about financial stuff, where we live etc and in the course of the conversation he was asking about borrowing from his 401K to pay off credit cards. I said not a good thing and over the course of the conversation got that he owes on the order of 20K combined on 3-4 cards and was figuring borrowing from the 401K made sense since he'd be paying it back to one source, at a lower rate.

My take is borrowing against 401K is a last resort to make mortgage payments, he has no mortgage(or kids) but does have rent probably 1100 a month. If you borrow you reduce the amount in your 401k so it builds slower, and the lower interest rate you're paying is offset by all the interest you are LOSING in your 401K. You have to repay it, often they garnish your paycheck to make sure you do. his is not with his current employer, it's with a previous one so he may not even be allowed to borrow from it?

Obviously the smart move is consolidate to one card with a lower interest rate is that actually all that easy to do? My suggestion was find out the amounts and rates on each card and start paying off the highest interest rate first while you look into consolidation.

My main concern is I don't see how he got in that situation to begin with had one brief period laid off a few years back but since then has been working steadily, had to take less money after the layoff but that was pretty common in the bay area. Not married, no children or alimony, car is paid off although old enough there are maintenance costs. So I think his main problem is clearly living outside his means and if he can't stop that he's going to continue to increase the balance he owes and never quite get why.

I get credit card apps all the time in the mail that offer to consolidate balances at lower rates but I never pay attention since I don't carry a balance, I just toss them out. Do people that already have high balances have the same offers available to them?

I already told him to go to Dave Ramsey's site because I know people here recommended it.

 

[dreamcastrocks]

Having a conversation with a friend yesterday about financial stuff, where we live etc and in the course of the conversation he was asking about borrowing from his 401K to pay off credit cards. I said not a good thing and over the course of the conversation got that he owes on the order of 20K combined on 3-4 cards and was figuring borrowing from the 401K made sense since he'd be paying it back to one source, at a lower rate.

My take is borrowing against 401K is a last resort to make mortgage payments, he has no mortgage(or kids) but does have rent probably 1100 a month. If you borrow you reduce the amount in your 401k so it builds slower, and the lower interest rate you're paying is offset by all the interest you are LOSING in your 401K. You have to repay it, often they garnish your paycheck to make sure you do. his is not with his current employer, it's with a previous one so he may not even be allowed to borrow from it?

Obviously the smart move is consolidate to one card with a lower interest rate is that actually all that easy to do? My suggestion was find out the amounts and rates on each card and start paying off the highest interest rate first while you look into consolidation.

My main concern is I don't see how he got in that situation to begin with had one brief period laid off a few years back but since then has been working steadily, had to take less money after the layoff but that was pretty common in the bay area. Not married, no children or alimony, car is paid off although old enough there are maintenance costs. So I think his main problem is clearly living outside his means and if he can't stop that he's going to continue to increase the balance he owes and never quite get why.

I get credit card apps all the time in the mail that offer to consolidate balances at lower rates but I never pay attention since I don't carry a balance, I just toss them out. Do people that already have high balances have the same offers available to them?

I already told him to go to Dave Ramsey's site because I know people here recommended it.

Actually, because of my daughter and wife recently getting sick and out of work, I just maxed out my $1k credit card and had to charge items on another. I also have a 2k CC that was recently increased to 4k. That card has a balance of about $700 as well. I thought about combining the two cards, but I plan on paying half of the 1k credit card on Friday. I need to get these both of these cards down below 30% ASAP.

 

[Mike Olbinski]

Well, I think it's pretty easy to rack up that kind of debt if you haven't worked in awhile. I racked up about 16k in over a year when I was trying to start the Rivals.com site.

Secondly, I think Ramsey would frown big time on using the 401k. He doesn't even like you to use the equity in your house to do it (Which I did and I'm happy I did).

My advice to him would be this:

Try to get new credit cards with lower interest rates and transfer his balances.

Get on a budget and start by paying all he can to the LOWEST balance he has. All the while continuing to pay the minimum on the other balances

Then when he's done, he applies that entire amount he was paying towards the first one, to the next balance, and so forth.

If he gets that sense of accomplishment on paying off the first one, he'll be more excited about the next.

I also think, depending on his credit, maybe he could take out a loan to pay off the cards, and then have a lower interest rate and pay that back?

I dunno the right way, but without a house's equity, I'd tell him to just pay it off the right way.

Or go a debt consolidation route, which we did, but it didn't last long as we paid it off with the house. Some can be bad, with credit reports, but ours was a good one.

 

[BACH]

How about getting a debit card with a credit limit on that account?

You should be able to get a fixed interest around 8% on a bank account with credit.

 

[Russ Smith]

He was out of work for 4-6 months but has been working steadily for 2+ years since and I got the impression most of this debt has been since he started working again. I think he kind of overspent because he had a job again?

I was thinking regardless of balance, pay off the highest interest rate card
first? But i can see the point Mike makes about pay the lowest balance off first so you get that sense of accomplishment.

I don't know what %'s he's paying I didn't get into that much detail I got the impression he wanted me to tell him the 401K plan was a good idea and when I didn't say it was, it was like pulling teeth to get the story on why he was considering it. I can see stopping depositing into a 401K to use the money to pay off debt, I think that's a reasonable short term idea, but borrowing against it can be a big problem.

The big risk is if you change jobs or get laid off, you can be required to repay the entire amount in a fairly short time, like 90 days I think, and if you can't, they just consider it an early withdrawal from your 401K and you get hit with a big tax bill with a penalty.

 

[dreamcastrocks]

He was out of work for 4-6 months but has been working steadily for 2+ years since and I got the impression most of this debt has been since he started working again. I think he kind of overspent because he had a job again?

I was thinking regardless of balance, pay off the highest interest rate card
first? But i can see the point Mike makes about pay the lowest balance off first so you get that sense of accomplishment.

I don't know what %'s he's paying I didn't get into that much detail I got the impression he wanted me to tell him the 401K plan was a good idea and when I didn't say it was, it was like pulling teeth to get the story on why he was considering it. I can see stopping depositing into a 401K to use the money to pay off debt, I think that's a reasonable short term idea, but borrowing against it can be a big problem.

The big risk is if you change jobs or get laid off, you can be required to repay the entire amount in a fairly short time, like 90 days I think, and if you can't, they just consider it an early withdrawal from your 401K and you get hit with a big tax bill with a penalty.

I have 10k or so in my 401k from this job, and it seems counterproductive to take money out of that to pay my credit card debt. I know I don't have that much room to talk, because my credit score is on the lower end of the scale, but it has gone up 40 or 50 points in the past year.

 

[nathan]

While we're on the topic of debts...

I know there are some mortgage people on this forum and I'm sure many of you have houses. How big of a hassle is it to buy a house without putting down a full 20%. I know you can get private mortgage insurance (PMI) or take out a second loan, but I'm not sure how much cost either of those things could add to the equation. I'm not looking to buy right now--maybe in 2-2.5 years.

 

[dreamcastrocks]

While we're on the topic of debts...

I know there are some mortgage people on this forum and I'm sure many of you have houses. How big of a hassle is it to buy a house without putting down a full 20%. I know you can may private mortgage insurance (PMI) or take out a second loan, but I'm not sure how much cost either of those things could add to the equation. I'm not looking to buy right now--maybe in 2-2.5 years.

I am right in the same boat. I am cleaning up my credit, and hoping that the housing bubble bursts. I hope to buy in the next 12-18 months.

 

[DutchmanAZ]

Ramsey advocates paying off the lowest balance first regardless of the interest rates to do exactly what's already been stated: to give a sense of accomplishment.
One would then take the amount they were paying on the lowest card and combine that with the minimum payment on the next highest account and apply it to that card.

The perceived danger in using the 401 K besides the obvious money you'll lose is that he will not change his spending habits and get into the same situation again. Much like people who do a refi to get cash. Their consumer debt is paid, but they do not change their spending habits and return to having consumer debt.

Ramsey's method is working very well for me.

 

[jefftheshark]

I am right in the same boat. I am cleaning up my credit, and hoping that the housing bubble bursts. I hope to buy in the next 12-18 months.

The housing bubble burst over a year ago. The current climate favors buyers, which might not be the case in 18 months.

Homebuilders will have the better deals because they can bite the bullet to get rid of inventory, while the re-sellers generally can't or won't follow suit. Most of the major homebuilders have their own mortgage companies and they will generally bend over backward to get a buyer into a house.

The Shark

 

[Russ Smith]

Ramsey advocates paying off the lowest balance first regardless of the interest rates to do exactly what's already been stated: to give a sense of accomplishment.
One would then take the amount they were paying on the lowest card and combine that with the minimum payment on the next highest account and apply it to that card.

The perceived danger in using the 401 K besides the obvious money you'll lose is that he will not change his spending habits and get into the same situation again. Much like people who do a refi to get cash. Their consumer debt is paid, but they do not change their spending habits and return to having consumer debt.

Ramsey's method is working very well for me.

That's pretty much my take and advice to him. The 401K is a bad idea unless you are positive you're going to stay at that job until the loan is paid off, and you're going to change your spending habits.

I see the logic in the pay lowest balance first. To me intuitively you pay off the highest interest balance first since that's the one that will build the most by just paying minimums, but I do see where the sense of accomplishment of paying off one balance helps the person see they REALLY are getting somewhere.

thanks it reinforces what I told him to an extent but I like the low balance idea too since I think it will help change his habits quicker if he sees results.

 

[Hollywood]

I just did this with my own finances. First you don't want to touch your 401k unless you absolutely have to. You don't really even want to stop paying into it because most companies will match a percent of your salary which is free money. The company I work for will match dollar for dollar up to 5% of you yearly salary.

Second you want to get rid of the higher interest cards. You can do this in one of two ways. The first is just to pay off the card, usually with a balance transfer to a lower rate card. The other is to call the company and negotiate a lower rate. When I did this I called every company and told them that my rate was too high and I needed a lower one to keep them as a company....remember that YOU are the customer. One card in partictular had around a 20% apr. When I initially called them they offered to lower it to about 18%. I told them that wasn't low enough and that I need to know what I need to do to close the account and transfer the balance. They checked and told me that they found a lower rate....8%. Another card said they didn't negotiate for lower rates and I closed the account. Again, remember that you don't have to pay off the card to close the account.

I started to look for card offers with low introductory rates and transfer the balances to them. I even opened up two accounts in the process. The first was a Capital One that still has the lowest non-promotional rate of any of the cards that I have. The second was a Bank of America card that offered an amazing 0% apr for the first year. This is the only time I have ever paid a balance transfer fee. But for 0% I felt it was something I couldn't pass up. I have since paid off that card with a refinance on my house and am applying the payment I was making on the card to the mortgage.

I use a rewards card to pay for everything I can. I pay off the balance every month by keeping track of the spending like you would with a check book. So far I have earned $350 for the year with the rewards card.

The main thing is that I have a budget and keep track of where our money is going. I know that last month I blew my budget by over $150. That is money that I use for lunch and whatever else I want. So this month I am paying the price. No eating out for me untill I pay, at least, some of that money back. Basically if you don't have a way to keep track of what you are spending your money on, you will never know just how much you waste. Once you see that, it is easy to cuy back.......except for last month.