Ask Liz Weston

Get smart with your money

Debts

Don’t pay grandson’s credit card bills

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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

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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.

How to bounce back from bad credit

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Foreclosure, bankruptcy or a history of missing payments can send your credit scores into the basement. The good news: nothing is permanent in the world of credit and credit scoring. You can rehabilitate your scores over time if you know how.

Here’s what to do:

Pull your credit reports from all three bureaus. Check for errors and dispute any serious mistakes, such as accounts that aren’t yours or late payments being reported when you paid on time.

If you don’t have any credit cards, apply for a secured card. These cards give you a credit line that’s equal to the amount of cash you deposit with the issuing bank. NerdWallet recommends the Capital One Secured Card and the Orchard Bank Secured Card.

Use your cards lightly but regularly. Your charges shouldn’t total more than about 30% of your credit limit—10% or less would be even better. And you shouldn’t charge more than you can afford to pay off in full every month. Carrying balances doesn’t help your credit scores, and it’s expensive. So don’t do it.

Apply for an installment loan. Your credit scores will recover faster if you have a mix of credit, which means both revolving accounts (credit cards) and installment accounts (mortgages, auto loans, student loans). If you don’t already have an installment loan, consider applying for a personal loan from your local credit union. These member-owned financial institutions often have been rates and more flexible credit standards than traditional banks. Don’t belong to a credit union? You can find one you’re eligible to join here.

Pay your bills on time, all of the time. One skipped payment can devastate your scores. So can an account that’s charged off, or that’s turned over to collections.

You can track your progress by using a credit monitoring service that includes your credit score. Some sites, like Credit Karma, offer credit monitoring for free, although the credit score you get isn’t the FICO score most lenders use. To get your FICO, you’ll need to sign up with MyFico.com.

Don’t count on plastic to cover big expenses

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Dear Liz: I’m 27 and have no consumer debt, a decent salary and a boatload of student loans. I use my credit cards for most of my expenses to earn rewards points and generally pay off my cards each month. I also take advantage of the 0% introductory rate offered by many credit card companies. This grace period gives me a security blanket so that I can spread large expenses such as insurance or car repairs over several months without derailing my saving plans. Can I apply for these offers without wrecking my excellent scores?

Answer: Occasionally applying for a new card won’t affect your scores much. Typically such applications ding your scores by five points or less.

You should be budgeting and saving for large expenses, however, rather than leaning on your cards. (Car repairs, in particular, aren’t really “emergency” costs — if you have a car, you know they’re coming, and calculators like Edmunds.com’s “True Cost to Own” feature can give you a good idea of what they’re likely to be.) Those 0% offers often come with balance transfer fees or other charges that make the deals a lot less attractive than they seem at first glance.

Also, you should be in the habit of always paying your cards in full — always. “Generally” isn’t good enough, since you could easily be enticed into spending beyond your means, especially as you chase rewards points. Rewards cards are a good deal only if you don’t carry a balance. Otherwise, you can pay frighteningly high interest rates that offset any benefit you may earn.

Hoard cash if unemployment looms

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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

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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.