Debt and Credit

The Pros and Cons of using (or abusing) credit

 

Some basic concepts:• Equity: aka Loan to Value ratio: difference between value

and amount owed • Debt to Income Ratio: Total of minimum payments divided

by gross incomeo Example: $4000 monthly gross income with a $1400

mortgage, $300 car payment, and $50 credit card minimum=$1750 or 43.75% DTI

o "Healthy" range is 30-40%, max usually 45-50% • Credit Score: aka FICO: how a lender sees you, based on:

o payment historyo debt to credit percentage: available credit vs. balance

owedo collections, bankruptcies, etc.

Pro: Building Equity• Rent money goes to the landlord, but mortgage

payments go to your equity ownership• Equity means that when you sell or refinance, you have a

cash value in your home BUT:• Equity can be abused:

o Refinancing and taking the cash value out for other purchases  keeps you perpetually in debt

o Constantly upsizing: using the equity to purchase a more expensive home and remaining in debt

• The total cost of principal and interest is exponentialo A $240,000 mortgage at 5% will cost you $411,278

over 30 years

Pro: Investing for the future• Value of education

o The average increase in lifetime income for a bachelor's degree is over $300,000, another $180,000 over that if you have a master's degree

BUT:• The degree might not help if you are in the liberal arts fields• The financial position you are in at the end of school could

cause more harm than the expected increase in income can help:o Example: a new worker with 7 yrs of schooling and an 85%

debt to income ratio who was forced into credit counseling 

What would it look like if we decided as a community and country that education should not be paid for with loans?

Pro and Con: Business Loans• Using capital to invest in growth: new products, innovations• Creates jobs and possibility for future profits• Most economic growth comes from small businesses

 BUT:• There is a lot of risk in business loans: competitors,

economic troubles, patents and permits• More small businesses fold then succeed in the first few

years• Small business owners many times end up in personal

financial trouble because of their business ventures 

What if we focused on slower, more sustainable economic growth instead?

Con: Being held hostage to your debt vs. living in freedom • Fear of layoffs and job changes

 • Ability to respond to God's call

o Supporting otherso Mobility: not upward, but outward

 • What is more valuable: money or time?

 

Biblical Perspective on Debt and Credit Romans 13:8: Let no debt remain outstanding, except the continuing debt to love one another, for he who loves his fellowman has fulfilled the law. • Typically used to argue that all debt is sinful• Context is related to paying taxes and fulfilling the law

     Warnings on being in debt: Proverbs 22     7: The rich rule over the poor,        and the borrower is servant to the lender.     26-27: Do not be a man who strikes hands in pledge        or puts up security for debts;          if you lack the means to pay,        your very bed will be snatched from under you.

Biblical Perspective on Debt and Credit 

Taking advantage of others through lending prohibited: • Deuteronomy 23:19-20

Do not charge your brother interest, whether on money or food or anything else that may earn interest. You may charge a foreigner interest, but not a brother Israelite, so that the LORD your God may bless you in everything you put your hand to in the land you are entering to possess.  • Ezekiel 18:16-17

He does not oppress anyone or require a pledge for a loan. He does not commit robbery but gives his food to the hungry and provides clothing for the naked. He withholds his hand from sin and takes no usury or excessive interest. 

Biblical Perspective on Debt and Credit 

The Year of Jubilee: Lev. 25, Deut. 15• A comprehensive economic system that began with the

distribution to the twelve tribes• Returns property to original owners and cancels debts• Price controls based on number of years until Jubilee• Ownership stays with families over generations• Prevents the rich from taking advantage of the poor

 How could the principles of Jubilee translate to our modern economics?     

Biblical Perspective on Debt and Credit Jesus' perspectives on debt:• Uses parables involving debt and lenders• Never calls debt or lending 'sin'

 But Matt 6:24 reminds us that you cannot serve God and mammon-how does that principle apply to the use of credit?       

Getting Out of Debt

 

Basic Principles

• Start with a budget to get current spending under control • Set manageable goals

 • Have someone who keeps you accountable to your budget

 • Review your progress and readjust as necessary

 • Celebrate small achievements

Popular Methods

"Laddering" • Payoff highest rate debt first• Saves you money by reducing overall interest rate

o Example: 1.car loan at 6%, $300 payment–student loan at 4%, $100 payment –credit card at 12%, $25 payment –credit card at 21%, $50 payment

        You would pay the minimums on all, but pay extra on #4 until it is at zero, then pay extra on #3, then on #1, then on #2 • Promoted by Suze Orman, Clark Howard

Popular Methods

"Snowball Effect"• Payoff smallest balance first• Gives you small victories along the way• Increases the amount you are able to payoff each month

o Example: 1.$10,000 car loan at 6% –$14,000 student loan at 4% –$1,000 credit card at 12% –$3,000 credit card at 21%

        You would pay the minimums on all, but pay extra on #3 until           it is at zero, then pay extra on #4, then on #1, then on #2 • Promoted by Dave Ramsey

Once you are out of debt, don't go back!

• Keeping debt off is like keeping weight off- it takes a long term commitment

 o Only have 1 credit card and pay it off every month

 o Be creative in your financing: buy used, barter, or trade

 o Plan for major purchases-don't buy on impulse

 o Have an emergency savings fund for unexpected

expenses