Debt Relief Plans

Excerpted from
Talking Money: Everything You Need to Know about Your Finances and Your Future
By Jean Chatzky

Debt Relief Plan No. 1

You're responsible with your plastic, paying off your bills on time, often even in full. Even if you're carrying a moderate debt load, you're managing it well. But you do have a problem-one you may not even be aware of. For model customers like you, credit cards are getting even more expensive. You've got such impeccable money habits that from the point of view of the credit card company, you're a nightmare. Particularly if you only charge occasionally, you're not making them any money.

Here's the way profitability shakes out for the card companies. Most bank cards make about 1 percent on every purchase you charge. That means if you charge $1,000 a year, the company makes $10. You charge $3,000, it makes $30. Everything else is made on interest (averaging right now about 17 percent), annual fees, and penalty fees (charged for things like paying late and going over your credit limit).

So let's say you shopped around for a credit card, settling on one that has no annual fee and a moderate interest rate. You don't care because you never pay interest anyway. The only money your card company is making on you is that slim 1 percent. Consider postage and the cost of printing statements and unless you're charging more than $250 a month ($3,000 a year) the company is making zero. Zilch. Nada.

You're the reason that credit card companies have gotten so aggressive with penalty fees. In years past, you could pay your bill a few days late and the card company would look the other way. Now, at many card companies if you're one day late you may find a $25 charge on your next statement (one large card issuer has recently started assessing late fees on payments that arrive after 10:00 A.M. on the day they're due!). Going over your limit can cost you another $25 (and by the way, it's up to you to keep track of just how close to that limit you are).

And then there's the GE Rewards card example. It charges you $25 a year simply for paying off all your bills in full and on time, in effect penalizing you for not paying any interest. What's the best way for a conscientious consumer to handle this sort of difficult environment? By getting even more aggressive.

Start with a great low-rate card. In general, you want to have two credit cards. The first should be a low-interest, low- (or preferably no-) annual-fee, essentially bare-bones card. Simply stash it in your wallet for emergencies, just in case one day you do have to make a large purchase that you know you're not going to pay off immediately. Think of it as having a low-rate line of credit. It doesn't cost you much (if anything) but it could bail you out if you're in a jam. (Note: If you're the kind of person who charges only very small amounts, say less than $250 a month, or $3,000 a year, you'll want to take a different tack. A low-rate, low-fee card should be your primary charge card. At these low charging levels, you'll never earn enough in frequent flyer miles or other points to compensate for the annual fees rebate cards typically have.)

Add a perk card. If you're an avid charger, the kind who loads purchases on a credit card for the sake of convenience and then pays them off each month, your primary card should be a perk card. It should give you something back-dollars toward buying a car, frequent flyer miles, points toward hotel rooms, or even cash. The goal is to pick a reward that you'll actually use. People let billions of miles expire each and every year. That translates into millions of dollars. So while dollar for dollar the cash-back deals aren't as sweet as the mileage ones, they can be more valuable if you rarely fly.

Do you need a third card? Rarely. If you're very aggressive about earning points, and you charge thousands of dollars a year, you may max out whatever rewards a certain program is willing to give you each year. The trick is to use cards like these only until you reap the maximum reward, which means keeping track of your spending. Then switch to another perk card.

Read your statements. Credit card statements are about as scintillating as junk mail, I know. But it's important to give them the time of day. In many cases the information printed there is the only notice you'll get of changes to your card program, which can be substantial. Interest rates can go up. New fees can be assessed. Reward programs can vanish into thin air, leaving you with a limited amount of time to use the points you've already amassed. And all of these changes may take effect in as few as fifteen days. Particularly in the ease of an interest rate hike, that can cost you some serious money. Many state banking departments have laws that allow you to cancel the card and pay off your balance at the old rate. But if you use the card once you've received notice of the change, it's considered a de facto acceptance of the new rate. In other words, you're stuck with it.

Don't Hesitate: Automate

With late payment fees on the rise-not just for your credit card bills but for other regular bills-you need insurance that your payments get to their destination on time every single month and here it is: Pay those bills automatically. You can preauthorize withdrawals from your checking account to pay your mortgage, car payments, insurance, utilities, even the health club-almost anything that's a fixed amount.

Debt Relief Plan No. 2

The appearance of your credit card bill each month in your mailbox is no longer a comfortable event. Perhaps you delay a day before opening it, because you know the number on the "new balance" line is going to be higher than you'd like it to be. The good news is that you're quite normal. In fact, in the scope of credit card customers, you're average. According to CardWeb, most households have thirteen cards in their combined wallets, including 5.5 bank cards (Visa, MasterCard, Discover, Optima). Here's how to break the habit:

Raid your savings account. Do you have hundreds of dollars sitting in the bank earning 3 percent? Or thousands in a money market account earning a little more? Take that money out and use it to pay off your credit cards. You'll save considerable money. Say you take $3,000 out of a 3 percent savings account and use it to pay off debt on a credit card where the interest rate is 18 percent. In a year, you'll net $450 on the deal. That's a substantial start to your new emergency fund.

Pull out all your credit cards. If you have more than two or three, you have too many. First separate those that you haven't used in a while. If you don't owe them any money, call the toll-free numbers on the back of the card and cancel them right now. They're cluttering up your wallet-and doing damage to your credit rating. Then, a month or two down the road, request a copy of your credit report (more on this momentarily) to make sure that all those canceled cards reflect that they were closed by you, the customer, and not by the institution-or as often happens, that they weren't closed at all.

Pay off the highest rate card first. Next, look at the pile again and find the card with the highest interest rate. The fastest and cheapest route out of debt is to put all your extra cash toward paying off that card, while paying the minimum on the rest. When you've paid the balance down to zero, then cancel the card. Cut it up. Then move to the card with the next highest interest rate and repeat the process. If you're sitting with a portfolio of cards that all have high rates, you should also look at transferring your balances. These days, rates of 12 percent or less are fairly competitive. Anything higher should be shuffled around. Just make sure balance transfers aren't charged interest at a higher rate before you do the deal.

Eliminate department store cards. These probably make up a good portion of the cards in your wallet and generally they're a ripoff. Their interest rates tend to be well above average and, to make matters

worse, they're usually nonnegotiable. I know, they're tempting. Every time you make a major department store purchase, you probably get offered a card with a 10 percent discount on everything you buy that day. I would have saved $300 on a couch I was looking at in Bloomingdale's by signing on the dotted line. If I'd yielded to temptation but then canceled the card immediately, it would have been worth it. But that's another temptation you don't need. If my couch purchase was followed by a month where money was tight, then another and another, it would have cost me $600 in interest to let the couch sit on my card for a year.

Watch out for fees. The way the credit card industry is piling on the fees these days, it's tough even for a fairly decent customer to avoid them. Late fees averaged $23 per payment in 1999, a 20 percent jump from a year earlier. Worse, they're just the starting point. Exhibit the same bad behavior-whether it's paying late, exceeding your credit limit, or not using your card enough-more than once or twice and many card companies use it as an excuse to raise your interest rate. Beware.