Credit Card Debt Reform
Defaults Increase while Mortgage Refiances Decline
Many consumers alternate between credit card debt and mortgage refinance to finance their personal needs. This may no longer be an option for many homeowners.
Consumers’ finances are hitting a brick wall. In the current market, consumers are having a tough time managing debt and unfortunately for many consumers it is only going to get worse. While interest rates have declined from their recent highs, due to the imminent threat of inflation, the Federal Reserve is slowing its call for lower rates. That means consumers will find obtaining debt more expensive across the board.
Credit Card Debt
The form of debt used most often by consumers -- credit cards -- could be the next subprime mortgage crisis. Many consumers alternate between credit card debt and refinancing their homes as their credit card debt gets too high. For many this cycle is coming to an abrupt halt. This means credit card defaults will rise as property values decline and as it becomes harder to refinance a home. While this will be an unwelcome shock to many consumers, the best course of action is to curtail credit card spending and begin paying more than the minimum balance as soon as possible.
Credit cards can be an excellent form of short term debt; however, when balances rise to the point where making minimum payments is the only option, it almost certainly spells bankruptcy. For many consumers the last five to 10 years have offered a plethora of refinancing options. Be advised that times are changing rapidly. Higher interest rates and tighter lending policies will make debt much harder to refinance out of. Additionally, credit card rates could climb even higher and new lending policies might make it harder to gain additional credit.
Mortgage Debt
As home values continue to decline homeowners lose equity in their homes. Many new homeowners may find themselves in the position of owing more than their home is currently worth. While this is never a good position to be in, it is important to understand the consequences of walking away from a mortgage. It can be very tempting to simply move to an apartment, pay lower rent and hand the keys back to the bank. In some cases this may even be a very smart move. In some places in California and Florida, where home values have dropped 20-30%, it could take a decade to get to a position where a homeowner has any equity at all. Weighted against the hit to a borrower’s credit, it could be the financially responsible thing to do.
Before throwing in the towel consider renegotiating a better deal with the lender. No one wins if a borrower defaults on the loan. The bank loses steady mortgage payments and worse, gets collateral back that is worth 80 cents on the dollar. Faced with this proposition, many banks have been willing to listen to a variety of proposals from borrowers. These have ranged from interest rate freezes, principal reductions, and other creative solutions to keep the homeowner in their home with manageable payments. Now could be the best time in recent history to reach out to banks because they have every incentive to work with the borrower. Regardless of the borrower’s financial situation, calling and asking his/her mortgage holder for better terms is the smart thing to do.
While this is not meant to advocate walking away from a mortgage commitment, it is meant to spur more thinking by consumers around their debts. Credit and debt are tools consumers use to manage their purchases. Understanding and using these tools properly can help them manage their finances better.
