Old debts don’t disappear

Dear Liz: I am astonished you would counsel someone to try to negotiate a settlement of credit card debts from 2003 that were written off in 2007. Why? The statute of limitations is no more than six years in California and can be much shorter in many other states. If a reader of your column begins to negotiate over debts that are that old, they risk creating a new debt or resurrecting the old one, thereby becoming liable for repayment of a debt that is not collectible. When there is a stale claim, the response to the collection agency needs to be: “This is a stale claim, the statute of limitations has expired. I do not owe this debt to you or to my original creditor. Please stop contacting me.”

Answer: Statutes of limitations limit how long a creditor is supposed to be able to sue a borrower in court. The statutes vary by state and the type of debt, but range from three to 15 years. The expiration of that limit doesn’t make the debt somehow disappear or prohibit a creditor from continuing collection efforts.

Many people feel a moral obligation to pay their debts when they can. Others want to negotiate to remove collections from their credit reports in return for payment. (Time limits for reporting negative items on credit reports are different from state statutes of limitations; in most cases, the limit is seven years and 180 days from the time the account first went delinquent.) If someone wants to get a mortgage, for example, a lender may require payment of an open collections account regardless of the state statute of limitations.

You’re correct that anyone who wants to negotiate a settlement of an old debt should be aware of the statute of limitations affecting that debt. If the limitation hasn’t passed, the borrower needs to be aware of the danger of getting sued. If the limitation has passed, the borrower needs to avoid restarting it by making a small payment. Instead, the best approach is to settle for a lump sum and to get the collector’s assurance, in advance and in writing, that the remaining debt will be forgiven rather than resold.

Short sales, foreclosures have similar effect on credit scores

Dear Liz: I went through a divorce in the last year after being separated for two years. During our separation, we closed credit cards with high balances to make sure neither party would spend more on credit. We also had to short sell our home. So, as a single woman in her mid-30s, I have credit that’s somewhat shot for now. How many months should I expect the short sale to affect my credit scores? And was closing the credit card accounts good or bad for my credit?

Answer: Closing credit accounts can’t help your credit scores and may hurt them. In a divorce, however, it’s usually wise to close all joint accounts. Otherwise, your credit rating is in the hands of your ex-spouse, who could trash your scores by paying accounts late or maxing out credit lines.

In any case, the short sale probably had a much greater effect on your credit than the account closures. Short sales typically damage your credit as much as a foreclosure, according to the company that created the leading FICO credit score. Recovery times are measured in years, not months. If your scores weren’t that high to begin with — say 680 in the 300-to-850 FICO scale — it would take about three years for your numbers to return to their old levels. If your scores were high, say 780, it would take about seven years to restore them to their old peaks.

These recovery times assume you handle credit responsibly from now on. That means having and lightly using a credit card or two, making all payments on time and ensuring no account goes to collections.

How to settle old debts

Dear Liz: I defaulted on my credit cards starting in 2003 because my business was failing. The last account was charged off in 2007. My business is now back and doing well, and I am expecting a nice little windfall in a couple of months. Should I pay these amounts I owe to the collection agencies that have been calling me, or should I contact and pay the creditors from which I obtained the credit cards?

Answer: You can try contacting the original creditors, but most likely they will refer you to the collection agencies. The original creditors have long since taken a tax deduction for their losses and sold the debts to those collectors, so they typically can’t accept payment for these accounts.

The collectors probably paid pennies on the dollar to buy your debts. The older the debt, the less they probably paid. Keep that in mind as you’re negotiating settlements of these debts, because you don’t have to pay 100 cents on the dollar for the collection agencies to realize a considerable profit.

As part of your negotiations, you’ll want to make sure to get the collector’s promise — in advance of any payment from you, and in writing — that it will not resell any unpaid portion of the debt. You may still face a tax liability on this unpaid debt, however, because debt forgiveness is typically considered taxable income.

You also should try to get the collector’s assurance — again, in advance and in writing — that it will stop reporting the collection accounts to the credit bureaus. This won’t eliminate the damage the unpaid debts are having on your credit scores, because the missed payments and charge-offs will remain on your credit reports for seven years and 180 days from when the accounts first went delinquent. But eliminating the collection accounts could boost your scores a bit.

Be aware that in many states, your debts are too old for creditors to sue you in court over them–unless you do something like make a partial payment that can restart the so-called statute of limitations. You can read up on how statutes of limitations work at sites such as DebtCollectionAnswers.com, and learn how to conduct such negotiations without inadvertently restarting the statute.

Don’t pay grandson’s credit card bills

Dear Liz: I hope you can offer me some advice regarding a large credit card debt. My 28-year-old grandson is currently enrolled in college part-time and is employed. Over the last few years, he was not in school and unable to find work. He has, consequently, accumulated a total debt of $7,000 on his three credit cards. What would you advise him to do? He is paying the interest only on his debts as that is all he can afford.

Answer: Today’s minimum payments require credit card borrowers to repay a portion of principal along with the interest owed that month. If he truly is paying only interest, then he’s paying less than the minimum required and his credit scores have probably taken a big hit.

Let’s assume that he’s actually paying the minimums on his cards. He needs to increase his payments if he wants to work his way out of debt faster. That will require earning more income (by working more hours or taking a second job), cutting expenses or both.

Seven thousand dollars is not an insurmountable amount of debt, and certainly not something he should file bankruptcy over. But he may want to talk to a legitimate credit counselor about budgeting strategies or, if he’s really in a bind, a debt management plan that would allow him to pay the debt off over time at lower interest rates. He can get referrals from the National Foundation for Credit Counseling at http://www.nfcc.org.

What you shouldn’t do is offer to pay this debt, even if you can. Struggling to repay this debt could teach him not to carry balances in the future. If you pay the debt, the only thing he learns is that he can count on Grandma to bail him out of his own messes.

There’s more than one way out of credit card debt

Dear Liz: In your book “Your Credit Score,” you note that one of the best ways to improve your credit score and lighten your credit card load is to get a personal loan with a credit union and pay it off in installments.

I have two high-interest credit card balances that are hovering right near my credit limits (a little over $15,000 total) that comprise the vast majority of my debt. I’d love to get an installment loan to pay them off, but I’ve applied several times and several places for personal loans — including my credit union — and have either been denied or not given a sufficient loan to cover the total amount. I also don’t have $15,000 in cash sitting around in a savings account to secure a loan of that size.

In this situation, what would you recommend? The minimum payments on these two cards are roughly $190 and $160 each, and I’d love to be able to combine them and maybe even save a few bucks too.

Answer: What you seem to be talking about is a secured personal loan, rather than one that’s unsecured. Secured personal loans typically require that you have an equivalent amount in a bank account or certificate of deposit as collateral for the loan. If you have the cash, though, you wouldn’t need the loan — you could use the money to pay off your debt.

Unsecured personal loans don’t have collateral. The bank or credit union is relying on your word that you’ll repay the loan. Not surprisingly, lenders can be pretty picky about whose word they will trust. Few will take a risk on borrowers with poor credit scores — and those maxed-out cards, accompanied by all those loan applications, aren’t helping yours.

For now, give up the idea of getting a loan. Instead, take whatever cash you have to pay down the cards as far as you can. Retain $500 or so as an emergency fund, but put the rest to use in eliminating this high-rate debt.

Next, start cutting expenses so you can free up more money to repay your debt. Do you eat out? Cut back. Pay for TV? Ditch the cable. Take vacations? Stay home for a while. None of these sacrifices has to be more than temporary, as long as you’re willing to stop adding to your debt.

Paying credit card debt is a lot like losing weight. If you don’t make much effort, you won’t get much result. But sending in big payments each month will help you see progress pretty quickly, which can inspire you to keep going.

Once you’ve got the debt paid off, don’t charge more on the cards than you can afford to pay off each month.

Son-in-law badgers elderly couple for money

Dear Liz: I am 84, and my husband is 88. We have two daughters, the elder of whom is married to a very controlling man. In the past, we lent them money and were paid back. But starting in 2009 his small business began to do poorly. They borrowed nearly $100,000 from us. Then in 2010, he begged us to get a home equity loan on our home, which was paid for.

They now owe us $300,000. We make the home equity payments of $800 a month because they are not able to pay that amount. He said he planned to sell a parcel of land to pay us back. Now he wants to borrow from my individual retirement account. He is telling our daughter to go after us and what to do. So I told my daughter and her husband, no more!

We are so sad. We didn’t expect to have money problems at this age. We wanted our estate to be divided equally between our daughters. But we’re wondering if we should make a new living trust to reflect the debt owed to us. Should we consult a lawyer?

Answer: You absolutely need a lawyer. Not just to draw up a new trust but to stand between you and the financial predator you call a son-in-law.

Badgering people in their 80s for money could be considered a form of elder abuse, and the amount he’s squeezed out of you is horrific. If either of you died or became incapacitated, he could swoop in to clean you out completely.

An elder law attorney can help you protect your finances and figure out what to do about this debt. It certainly would be understandable if you wanted to deduct the money you’re owed from your elder daughter’s inheritance, but you can expect this bully to cause misery regardless of what you decide.

Not that you needed more to worry about, but what you’re calling a home equity loan may well be a home equity line of credit. Although home equity loans come with fixed rates, lines of credit do not — which means the payments that are difficult for you to make now will be more expensive when interest rates rise. In any case, you might want to ask the attorney about the feasibility of a reverse mortgage, which could allow you to pay off the loan without having to make further payments.

You can get referrals to the National Academy of Elder Law Attorneys at http://www.naela.org. If your other daughter is trustworthy, please enlist her help in looking for and speaking with an attorney. She needs to know what’s going on so she can help in your efforts to protect yourselves from this man.

Hoard cash if unemployment looms

Dear Liz: My husband and I have been aggressively paying down our debts and plan to be debt free by this time next year. We’re devoting about 20% of our income to debt repayment and saving about 6% (not much, I know, but we’re young and just starting out). We were building an emergency fund and currently have enough money in it to cover only a few months of our expenses, since we had to dip into it recently for unexpected car repairs.

My husband just lost his job. I make enough that we would just barely be able to cover all of our minimum payments and our bills, but my employer lost its biggest client and I may be out of a job soon too. Should we continue to make the same debt payments, reduce the amount or make only minimum payments until we are both securely employed?

Answer: As soon as you know that unemployment is a possibility, you should begin to conserve cash. That means making only the minimum payments on your debt and cutting your expenses to the bone. Although the job picture is improving, the average duration of unemployment is still close to 40 weeks. That’s a long time to go without a paycheck.

When you’re both employed again, you should reconsider your financial priorities. Getting out of debt is a great goal, but not all debt is created equal. Paying off credit cards should typically be a high priority, but you needn’t be in as much of a rush to pay off federal student loans, car loans or mortgages, because the rates on these debts is typically fixed and relatively low. Instead, make sure you’re taking advantage of retirement savings opportunities and building up a cash cushion to tide you through the next financial setback.

Could son’s unpaid bills harm parents’ credit? Maybe

Dear Liz: Our 24-year-old son lives with us. He failed out of college, has been fired from two restaurant jobs and is working part time at a grocery warehouse. He has neglected to pay his credit card for several months. He also waits until his cellphone carrier threatens to turn off his phone before he pays half of that bill. We are concerned that his poor payment history may start to reflect on our good credit histories. We are retired and may want to build a new house. His bills are sent to our address, and creditors call our home phone number looking for him.

Answer: His debts shouldn’t affect your credit reports and scores unless you cosigned loans or other credit accounts or added him as a joint user to your credit cards.

Note the word “shouldn’t.” It’s possible that an unethical collection agency would try to get you to pay these bills by posting the overdue accounts on your credit reports. That could negatively affect your scores. Check your credit reports at least once a year at http://www.annualcreditreport.com. You also may want to consider ongoing credit monitoring, which can alert you if any collections or other suspicious activity shows up on your reports.

Speaking of unethical actions, you need to consider the possibility that your son could steal your financial identity. He probably has access to the information he would need to open new accounts in your name, including your Social Security numbers. His failure to pay his bills, even though it appears he can, indicates some moral shortcomings. He may not be low enough to rip off his parents, but if you have any suspicions about his trustworthiness, consider putting a credit freeze (also known as a security freeze) on your credit reports. This freeze should prevent anyone from opening credit accounts in your name.

Finally, you can write letters to creditors telling them to stop contacting you. You run the risk that such a letter could lead a creditor to sue your son. But his creditors may sue him anyway if he doesn’t respond to their requests for payment.

Prepaid cards aren’t a great choice for travel

Dear Liz: I have been granted a Chapter 7 bankruptcy discharge of all my debts. I’m now debt free and plan to stay that way. I’ve been saving like crazy and have enough to afford a cross-country driving trip to attend my son’s wedding. I’d like your advice on using prepaid debit cards to cover expenses such as fuel, food and lodging. My plan is to load each of three cards with an amount of money to cover each category of expense, based on my best research estimates, as a means of controlling how much I spend. If you feel this is a good plan, which would be the best brand of card to use?

Answer: Your determination to stay out of debt is admirable, but prepaid cards are problematic. You don’t have the same federally mandated consumer protections you have with a debit or a credit card, so merchant disputes or a lost or stolen card can wind up costing you big time.

Furthermore, these cards can be expensive. You often pay to activate the card, to load it with cash and to access the cash in transactions. Card comparison site NerdWallet.com studied 40 popular prepaid debit cards and found that the average card cost nearly $300 annually in basic fees. Monthly fees of up to $14.95 took the biggest toll, but $1 to $2 fees per transaction and for ATM use could easily cost a typical user more than $20 a month.

If you’re convinced prepaid cards are the best money-management tool for your situation, though, you might want to choose the American Express Bluebird, which was dramatically less expensive than its competitors in the NerdWallet study. The Amex card charges no monthly or per-transaction fees and allows for direct deposit. ATM withdrawals cost $2 apiece and cash reloads are just a buck, compared with an average of $4.50 with other cards.

Eventually you may want to look into getting a secured credit card to help you rebuild your credit scores, since prepaid cards won’t help with that. A secured card is one in which you make a deposit at the issuing bank, usually between $200 and $1,000, and get a card with credit limit equal to your deposit. You don’t need to carry a balance on these cards, but you do need to have and use credit if you want to rehabilitate your battered credit. NerdWallet recommends the secured cards issued by Orchard Bank and Capital One.

Use windfall to pay down debt, boost savings

Dear Liz: I am closing a business deal that will net me just under $1 million. I have an interest-only loan on my home, two car loans and credit-card debt. My plan was to “clear the plate” and pay everything off, leaving me about $175,000. I am not worried about getting into further debt, as my wife and I are pretty grounded, but I wonder if I should be giving up the tax break of a mortgage. My wife and I make a fair income, so we will need advice on investment options as well.

Answer: You say you and your wife are “pretty grounded,” yet you carry a huge amount of debt, including a ticking time bomb of a mortgage.

Interest-only loans were quite fashionable in the boom years but make little sense for most people. That’s because the low initial payments ultimately reset much higher, as the interest-only period ends and the borrower must begin repaying principle.

Carrying credit-card debt is foolish as well, and a sign that you’re living beyond your apparently quite comfortable means.

Furthermore, you don’t say anything about your assets — whether you’re on track saving for retirement or if you have an adequate emergency fund. That would make a difference in how you should deploy this windfall. If your savings are inadequate, it would make sense to invest a good chunk of this money, even if it meant continuing to carry a mortgage. If you must have a home loan, though, it should be a traditional, fixed-rate version to avoid future payment shock.

The big danger is that you’ll pay off what you owe now, only to wind up deeper in debt in a few years because you haven’t changed your approach to money. Use some of your windfall to hire a fee-only (not fee-based) financial planner to review your situation. You can get referrals from the National Assn. of Personal Financial Advisors (www.napfa.org).