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Managing Your Debt and Finances

Understanding how to manage debt can help your overall financial situation.

En español | Picture this: You’re driving along, within the speed limit of 35 mph. Realizing that you have a little push or pull — up or down — you decide to accelerate your speed another 5 mph. Hmm … so far, so good. All seems fine and you reason that maybe you could accelerate even another 5 mph, and so you do. 

In less than five minutes, when you’re now traveling 45 mph, you hear the wail of a siren and see the spinning red lights of a patrol car in your rearview mirror. 

Is a similar scenario playing itself out in your financial life as you try to take control of your debt and finances?  Sometimes, it’s all too easy for us to talk ourselves into spending a little more than we can really afford, only to anxiously discover we’ve crossed the limit and are in the red or close to it. 

About 43 percent of American families spend more than they earn each year. In the last few years, the number of Americans in debt has escalated to record numbers. And in terms of overall debt (including credit cards and student and car loans), mortgage debt continues to rank highest on the list. Many homeowners are struggling to avoid foreclosure even as banks write off billions in consumer debt.

Given the fragile state of the economy, you need to develop a better understanding of consumer credit and become more financially savvy about how to best manage your debt and finances. This isn’t optional. And while millions of Americans are experiencing tough times, the Great Recession has been particularly difficult for blacks and Latinos.

A recent survey by Ariel Investments, a privately owned, Chicago-based money management firm, revealed that 21 percent of blacks (compared with 11 percent of whites) increased their credit card debt; 17 percent of blacks (compared with 7 percent of whites) are delinquent on a home, car and/or credit card payment; and 5 percent of blacks (compared with 1 percent of whites) may go or have already gone into foreclosure.

Additionally, a 2009 study by the Pew Hispanic Center showed that 9 percent of Latino homeowners say they’ve missed a mortgage payment or were unable to make a full payment; 3 percent said they received a foreclosure notice in the past year; and more than 76 percent of Hispanics say their personal finances are in fair (46 percent) or poor (30 percent) shape.

Types of Consumer Debt

Obtaining credit is or has been relatively easy for many of us. We were once a more cash-based society. Today, it’s almost second nature for us to use and live by our credit cards. Recently enacted legislation, however, offers consumers a greater level of protection, making it more difficult for banks and lenders to charge exorbitant fees. Stay in control of your finances and learn how the new rules regarding credit card interest rates and fees can help reduce consumer debt. 

  • Closed debt is when you borrow a fix amount of money that you pay back at a fixed amount for a definite time period. Your car loan is a closed debt. You borrow what you need, you know your monthly payment and you know when you have paid it off.
  • Revolving debt is when the amount you owe can change over time, the amount you pay each month can go up or down, and as long as you still owe, you continue to make payments until it is paid off. This is your typical credit card debt. The more you charge — up to your credit limit — the more you owe, the higher your monthly payments and the longer it will take you to pay it off.
  • Secured debt is when the lender has some type of ownership or control that the lender can fall back on if you don’t make your payments. For example, the lender can take back the car and sell it again if you don’t make your payments. Typically, secured debt has a lower interest rate because the lender has another way to get money back on the loan.
  • Unsecured debt means the lender has no interest or control over what you buy with the loan. If you don’t make your payments, the lender has to come after you for payment and can’t repossess the shoes, groceries or the restaurant meal you bought with that credit.

RALs Aren’t Pals

Avoid payday loans and rapid anticipation loans (RALs). Payday lenders promote their services as a perfect solution for a one-time emergency. But these short-term loans can have annual percentage rates of 400 percent or higher and can lead to a never-ending cycle of debt. Many payday loan shops operating nationwide are near military bases and in African American neighborhoods. RALs (rhymes with "pals") sound friendly, but these short-term loans aren't the blessings they seem, as many people have discovered after calculating the fees and interest charges.

Distressed Homeowners

Two new federal programs can help make mortgage payments more affordable.

The Making Home Affordable Program allows eligible homeowners to refinance. This is designed for homeowners who are current on their mortgage but can’t refinance to a more affordable interest rate because the value of their home has dropped. You must be current on your Fannie Mae and Freddie Mac insured mortgage. Contact your lender if you believe you are eligible.

The Mortgage Modification Program is designed to help people at risk of foreclosure because of serious hardship such as job loss, high health care costs or a significant increase in mortgage payments. If you are eligible, your mortgage payment can be reduced to 31 percent of your income. Contact your mortgage company to learn if you are eligible.

See also: Picking the right mortgage options >>

Making Payments

While it may seem overwhelming, a number of resources are available — such as home equity loans and reverse mortgages — that can help you reduce, pay off and control your debt, and avoid foreclosure, offering you more financial freedom to save for your future. If you’re in the market for a new home, make sure your mortgage payments don’t exceed 30 percent of your income.

  • Talk to your lender — the sooner the better. It's much easier to negotiate before you get too far behind. Many lenders will work with you to set up a new payment plan that you can live with.
  • If you have an adjustable-rate mortgage that may adjust upward in the near future, consider refinancing. You may be able to refinance your mortgage with a reputable lender and get a fixed-interest loan. The payments may be higher but that should be better for you in the long run.
  • Talk with a credit counselor. Good counselors can help you develop a budget to help you manage your mortgage payments.
  • Talk with a housing counselor. The U.S. Department of Housing and Urban Development supports some housing counseling agencies that provide free assistance about how to keep your home out of foreclosure.
  • Sell and downsize. This may sound painful but you can try to sell your home, pay off the mortgage and use your remaining equity to buy a more affordable place to live. This is better than losing your home and all of your equity.

Unforeseen life circumstances can sometimes derail the best-laid plans, but a number of options and resources are available to help you reduce and better manage your debt and get you on the road to recovery.

Make your credit work for you. Take action and make a solid plan to grow your savings, shrink your debt, and get your spending under control and stay within the limit.

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