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Wake Up, People! You Absolutely Must Know These Things About Your Credit Score

Video thumbnail for youtube video 6 Tips For Simplifying Your Financial LifeA study done in 2013 revealed some amazing facts about how ignorant many Americans are regarding their credit scores and credit reports. For example, 2/5ths of those surveyed did not know that credit card companies and mortgage lenders use credit scores to determine their eligibility for credit. Another 2/5ths incorrectly believed that personal characteristics such as marital status and age are used to calculate credit scores. Between 25% and 33% did not know when it is that lenders must inform borrowers of the credit scores used in their lending decisions. More than 25% do not know how to raise or maintain their scores. And 36% incorrectly believed that credit repair agencies are usually or always helpful in improving credit scores and correcting errors in credit reports.

Wake up, people!

If you don’t understand credit scoring and credit reports you could be facing big trouble. If you’re not aware of this, you definitely need a good credit score to qualify for an auto loan, a mortgage and other financing. And if you make just one misstep such as forgetting to pay a credit card bill, you could be on the slippery slope to serious credit problems.

Do you know who compiles your credit reports?

Your credit reports are compiled by the three major credit bureaus – Experian, Equifax and TransUnion. The information they use comes from banks and the financial institutions with which you do business and includes every credit contract you’ve ever had related to debt. Debt collectors even report to the credit bureaus. So if you have an old unpaid medical bill, this could pop up on your report and damage your credit score.

In addition, the three credit bureaus collect information from public records on tax liens, court judgments and bankruptcies. Any time you apply for any type of credit (called a credit inquiry), this will be reported to the three credit bureaus. In turn, the credit bureaus provide your credit report to the lenders when you apply for new credit.

Banks and credit card companies aren’t the only ones that access your credit reports either. Cell phone providers, landlords, insurers and utility companies will also ask for a credit report in determining whether or not they want to deal with you.

What about employers?

According to the Fair Credit Reporting Act, employers can check your credit reports but they have to get your permission to do this. Of course, if you’ve applied for that dream job and your prospective employer has asked to check your credit reports, you’ll probably feel pressured to say yes. If you say no this would be as good as saying that you have poor or bad credit. And under no circumstances are employers or prospective employers permitted to check your credit score.

The inverse ratio

There is an inverse ratio to credit scores. The higher your score the lower the interest rate you will be charged on an auto loan, a personal loan, credit card, and a mortgage. Even your auto insurance will cost less if you have a high score. Conversely, the lower the score, the higher your interest rates will be.

One freebie a year

You can get a free copy of your credit reports once a year. This is a perk that was legislated by Congress a few years ago. There is a website, www.annualcreditreport.com, where you can get all three of your credit reports either simultaneously or one at a time. Alternately, you can get your credit report free from each of the “big three” credit bureaus. You should get these reports and review them carefully to make sure they do not contain errors. If you do find an error in one of your reports you need to immediately dispute it with the appropriate credit bureau. What some people do is get their report from one of the credit bureaus every three months, which is a way to monitor their credit and immediately spot any fraud.

Man climbing range of credit scoresThey won’t include your credit score

Your credit reports will contain a lot of information but they won’t include your credit score. While there are a lot of different credit scores floating around the most important one is your FICO score as this is the score that most lenders use in determining whether or not to extend you credit. You can only get your FICO on the website www.myfico.com.

Where else to get your credit score

Getting your credit score used to be a fairly big job. But it’s becoming much easier. You can get your score free on websites such as CreditKarma.com and CreditSesame.com and from the three credit reporting bureaus. These won’t be your true FICO score but should be close enough to give you a good idea of how you stack up. Whatever your number is, don’t fixate on it. The important thing is to understand how you stand in the range being used. FICO scores range from 300 to 850. This means that a score of 800 would put you in the range of very good or excellent credit. However, the VantageScore, which was developed by the three credit reporting bureaus, has a range of 501 to 990. It also assigns a letter grade to scores. If you were to have a VantageScore of 800 you would be ranked as C or Prime, which wouldn’t be as good as an 800 FICO score.

It’s becoming easier

If you have a Discover card you’re probably seeing your credit score every month on your statement. The credit card companies, 1st Bankcard and U.S. Bankcard have said that they will soon be sharing FICO credit scores and related information with their customers. This is in response to the US Consumer Financial Protection Bureau (CFPB), which has been urging the credit card companies to do this because it believes the more information a consumer has, the better a job he or she will do in managing their credit. While this has not yet proven to be true, it certainly can’t hurt for people to be able to see their credit scores every month and whether they’re getting better or worse.

How your score is calculated

No, your age, marital status, number of children or any other personal information is not used in calculating your credit score. It is based on six factors: Your payment history, debts owed, length of credit history, amount of available credit, types of credit and your credit inquiries.

If when you get your credit score you find that it’s either poor or bad there’s nothing you can do about your payment history. History is, after all, history. You also can’t do anything about your length of credit history. However, there is one factor you could get to work on – which is your debt-to-credit ratio. It’s calculated by dividing your debts owed by the amount of available credit you have. For example, if you have available credit in the amount of $10,000 and $5000 in debts owed, your debt-to-credit ratio would be 50%. Since this accounts for 30% of your FICO score this is an area where you could do something to affect it positively. The two alternatives are to either pay off some of your debts or ask one or more of your creditors to increase your credit limits. Do either one of these and you would lower your debt-to-credit ratio and this should have a positive effect on your credit score. If you’d like more tips for improving your credit score, watch this short video courtesy of National Debt Relief.

The net/net

What all this boils down to is that your credit score pretty much rules your credit life. And since your credit score is based on your credit reports – or how well you’ve used credit – the best policy is to always use it sensibly.

4 Ways You Can Eliminate Holiday Debt From Your Future

piggy bankThink it is too early to think about holiday debt? It is not! September is here and before you know it, you just breezed over October and November. Once the 9th month comes in, you need to realize that you should be thinking about how you will spend your money during the holiday season.

If you want to prevent debt during the holidays, the most important thing that you can do is to start preparing for it early. A little bit of planning will never lead you astray. What you have to realize is that the big expense that you make during the Thanksgiving to Christmas season should never take you by surprise. But guess what? A lot of people oftentimes find themselves unprepared for this.

According to the data shown in an article from DailyFinance.com, 55% of Americans who were surveyed in September of 2013 were not saving for the holidays. It is not really a common practice to do so. Why? Because we all know that we can rely on your credit cards to pay for the expenses that you will make. While this is convenient, it is not always the safest way to make purchases.

The same article revealed some disturbing data that indicated how some parents are willing to take on holiday debt just to buy their children some gifts for the season. 57% of parents are willing to make this sacrifice. But as gallant as it can be, it is also a sacrifice that is unnecessary. Those who earn less than $35,000 are willing to be in debt for up to $700. In fact, 31% of American consumers do not have a spending limit on their holiday buying.

We need to stop the habit to starting our New Year with debt. If you really want to eliminate holiday debt from your future, you have to realize that early planning is the key. If you have yet to act on your holiday expenses, then do not waste any more time. You need to start getting your act together.

4 step plan to avoid incurring debt during the holidays

Fortunately for you, there are ways to control holiday spending. Do not rely on your willpower alone. Make sure you prepare yourself so that you will stay out of any unnecessary holiday debt.

Here are 4 ways that you can avoid this type of credit.

  1. Set a holiday budget. First of all, calculate how much you will spend during the holidays. Most of this will go to gifts that you will give to family and friends. List down all the people you will give to and set a budget for each. If you can identify the gift so you can be specific about the amount, that would even be better. But apart from the gifts, you should also consider other expenses like the household decorations, meals and any travelling that you will make. If you will go on a vacation with the family, make sure that amount is included in your holiday budget. Try to find out all the hidden holiday costs that you will encounter. That way, you will not be surprised by any unexpected costs.
  2. Figure out where you will get the money. Do you have a bonus coming up? If you will depend on this Christmas bonus, make sure that it is sure. If not, you may end up with a long list but no money to pay for them. The safest way is really to save up for it. If your expenses will be too big that you cannot save for it in time, then decide how you will boost your income to make sure you can finance it. Make your credit cards an emergency back up plan. If you can save up for it in cash, that is what you should do.
  3. Decide on your payment method. Once you know where you will get the money, you can now decide on how you will choose to pay for your holiday spending. Will you pay for it using cold hard cash? That will help you stick to your budget because once the cash runs out, you can no longer spend. Or will you use your debit card? That can also work because it will protect your cash from theft. You can also decide to use your credit card for the rewards. But make sure that you will not touch the cash that you saved up so you can pay off the debt as soon as the bill arrives. In case you prefer the convenience of a debit or credit card, make sure that you know how to protect yourself from identity theft. According to Bloomberg.com, Home Depot joined Target and Neiman Marcus Group in the list of data breach victims. Be smart and vigilant whenever you intend to use your card in any purchase.
  4. Find out how you can cut back on costs. If possible, keep on reviewing your list to see if there are somethings that you can cut back on. For instance, check if there are people that you do not have to give gifts to. Also, check out sale events and take advantage of the savings that you will get from them.

By following these steps, you should be able to eliminate or at least, minimize the holiday debt that you will incur this coming season. That way, you do not have to worry about the money that you will spend. And you can enjoy the holiday knowing that you do not have any lingering debts to pay off after the season is over.

What usually causes too much holiday borrowing

When you are making your financial plans for the holiday, try to concentrate on these two expenses.

  • Gifts. We have mentioned that this is the main expense that you will make this season. If you can think of making homemade gifts, that should allow you to cut back immensely on your budget. According to data from PewForum.org, 6 out of ten Americans planned on giving homemade gifts during the 2013 holiday season. More women opted for this gift giving solution to keep their spending low. Since you are starting early this year to prepare for the holidays, you have more time to make your gifts from home. If you can paint or have a talent for arts and crafts, then that is something that you may want to utilize. If you plan on baking goodies for your friends and give them as gifts, that is also something that you may want to prepare ahead for. Buy the ingredients in bulk if they can be stored without expiring immediately.
  • Travels. Whether you intend to celebrate the holidays in a different country or with your folks in another state, you may want to prepare for this too. You can save on vacation expenses if you book your travel ahead of time. The early bird promos are usually offered months before the actual travel. You can also arrange to stay with family and friends to save on accommodations. Looking at your options early on will allow you to choose properly and not grab whatever is available out of desperation.

Your holiday spending does not have to be met with a dreadful feeling. If you prepare for it well, you do not have to worry about holiday debt.

In case you decide to use your credit card, make sure that decision will not end up in debt. If you think you cannot save up enough money to pay it off immediately, you still need to make a payment plan so you can settle that debt as soon as you can. Here are some tips from a CNN Money video about how you can deal with your holiday debt.

5 Steps To Achieve Financial Freedom

dollar sign at the end of the roadDo you want to be confident about your personal finances? Well you need to work on your financial freedom. This is not really an indication that you will be filthy rich. That is different. But being in this financial state will help you weather any financial storms that may come your way. It is will not stop the problems, it will put you in a position where you have a higher chance of surviving.

RichDad.com defines being financial free as a situation that goes beyond just having more money. It is literally being free to do what you want it life. It is a state wherein you can follow and satisfy what you want to happen in your own life.

According to the article in that site, financial freedom will most likely involve a lot of changes in your life. It is a process that you have to go through. It will be difficult at times – implementing the changes that you have to make. That is because if your current lifestyle works, you should already be free from the burden of your finances. You should be enjoying the fruits of your labors without hesitation. If you are not, then obviously something has to change.

The rewards of being financially free is numerous. On top of the list is a happier and more successful individual. You will have growth, improvement and satisfaction that you have never known before. It is beyond how much you earn but more of how that particular income allows you to feel good about your life.

5 step plan to be free from financial problems

We have mentioned that the road to financial freedom is a process. There is actually 5 simple steps to help you achieve this financial state.

  1. Boost your extra money. By extra money, we mean you have to increase the money that is left over after you have paid off your usual expenses and payments. Most people will interpret this as earning more money. That is true, but is it not the whole picture. We have said that being financially free is more than just increasing your income. But that does not mean it is not part of the process. It is one half of what you can do. But boosting your extra money also means decreasing your usual expenses to free more money in your budget. It is your choice. This might be a bit difficult considering your current situation in life. Your life’s situation will help you determine if you need to increase you income or decrease your expenses.
  2. Create additional sources of income that are passive. You want to earn more but you want to do it in such a way that will not compromise your other obligations in life. Some people sacrifice their time with family and personal relaxation just for the sake of earning some extra money. A survey done by the University of Massachusetts mentioned how the earning capabilities of people change when they have children. The results of the survey published in BusinessInsider.com said that men increased their earning by 6% while women experience a decrease by 4%. This is probably because men are expected to boost their income to help finance the extra needs of their kids. Women, on the other hand, are obviously unable to earn more because they are usually the designated caretakers of the children. While these are understandable, you need to find out how you can earn passive income without compromising your time with your kids. It can actually work. Men do not have to sacrifice their time with family and women do not have to deal with a lower income to take care of their kids. All it takes is a stable passive income sources – take note that you need more than one to achieve financial freedom.
  3. Pay cash for your expenses. If you have to use credit cards for the rewards, you need to make sure you have the cash on hand to pay it back in full. This way, you do not waste money paying any interest. When you pay for things in cash, you get to limit just how much you will spend. If you do not have cash, you will stop spending. It is as easy as that. Controlling your expenses will be more effective this way.
  4. Contribute more towards your future. Anything extra that you have right now should be invested in your future. This could mean your retirement money. Invest your extra finances so it can grow separately and secure your future. That should help you feel more secure about what lies ahead. Not only will you be secure, you will be prepared for any financial need in the future because you have saved up for it. Just make sure you know where to put your money so it is somewhere it can grow best.
  5. Give yourself funds to enjoy your life. Your present happiness is still important. Never lose sight of that while you are pursuing financial freedom. Do not work yourself to death and then lose the chance of enjoy today. You simply have to budget how much you will spend on the things that will make you happy today.

If you notice, the steps towards financial freedom involves financial management: budgeting, saving and smart spending. These are the key to keep your finances from flying apart.

Things you might have to give up to be financially free

Part of having financial freedom is actually changing a lot about your lifestyle. In most cases, you will have to cut spending on a lot of things. It is not so much about restricting your lifestyle but more of concentrating only on what is essential. You will not deprive yourself. You will just identify what is excessive and cut them off.

According an article published on TheAtlantic.com, Americans have a love affair with houses and cars – big ones! In fact, the article mentioned that one third of the household budget usually goes to the house alone. The percentage is higher as the household income gets lower. Not only that, transportation takes up 17% to 18% of the household budget too. This is too excessive considering there are many alternate options to travel that are much cheaper.

That has got to stop. If you want financial freedom, you need to lower your lifestyle to suit your financial goals. Here are a couple of things that you may have to give up.

  • That big house. We all want that white picket fence surrounding a big home but if your finances cannot afford it, do not force it. We are not saying you should live in the slums. What we want you to do is to choose a modest home that fits your family perfectly and comfortably without the excess rooms that you do not really need. These extra rooms merely give you space to accumulate junk.
  • That new car. Granted that you need a car because you have kids. But that does not mean you need a new one. Pick a sturdy, reliable and good condition second hand car. It will serve its purpose without costing you too much.
  • That expensive annual vacation. You do not need a trip abroad to relax. There are so many places to visit in the country that will help you relax. If you’ve never heard of staycation, it is the option to go on a vacation close to home so it will not cost you a lot of money. The important thing is to spend them with the ones you love.
  • Those trendy clothes, accessories and gadgets. These trends, as attractive as they are, can really ruin your budget if you are not careful. You may want to think twice before replacing your phone or your clothes. Unless it is really necessary, keep yourself from spending unnecessarily on what would eventually become junk.
  • Those expensive entertainment activities. We encourage you to spend on your entertainment to keep you happy and motivated. But you should keep yourself from spending too much on it. Check how you can enjoy your hobbies without costing you a lot of money.

On a last note, it is important for you to realize that financial freedom is not a one time achievement. Once you have reached this stage, you should work hard to maintain it. Otherwise, you could lose what you sacrificed for so long to reach.

How To Give Your Finances A Good Scrubbing

Couple Using Laptop And Discussing Household Bills Sitting On Sofa At HomeFall is upon us for at least most of the country. Of course, if you live somewhere such as Southern California or Florida then fall is only a concept or a memory. But regardless, the holidays will soon be here so that now would be a good time to give your finances a good going over. What do you need to do? Here are tips for giving your finances a good scrubbing to make sure you’re in tiptop financial shape for Thanksgiving and Christmas.

1. Prioritize your budget

First, review your budget. If you had a hard time prioritizing things, you need to review your expenses and determine which ones are fixed and non-negotiable such as rent or mortgage payments, auto loan payments and utilities. You might also add other things such as groceries and gas into this category. Add up all these expenses and subtract them from your monthly income. What you have left is what will be available for your discretionary spending such as entertainment, shopping, dining out and travel.

Next, make sure you budgeted for an emergency fund. You just never know when your car might break down, your dishwasher stops working or someone in your family suffers a major illness. You need to be prepared for these unexpected items by having an emergency fund. Most experts say that your fund should be the equivalent of six months of living expenses. If this seems too daunting try saving for at least three months worth.

Review your housing costs, as it’s possible that you might be living beyond your means. In this case, consider getting a roommate to reduce your living experiences. You can also cut expenses by carefully furnishing and maintaining your home. Buy used furniture and appliances instead of new ones. Then take the time to refurbish them yourself. You could probably solve many household maintenance issues yourself and eliminate the need to hire an expensive contractor.

Review your spending for the past few months. Did you find some problem areas? Or maybe there are areas where you budgeted more than you really needed. Adjust things accordingly. And while you’re at it, check to see how well you’ve been sticking to your budget. If you find you’ve been spending too much time tweaking it throughout the month, simplify things by creating fewer, broader categories. You’ll still be keeping your spending under control but your budget won’t take up so much of your time.

Be reasonable. Don’t try to keep a budget that is simply not doable. You need to be realistic about your budgeting just as you would with an exercise plan. If you’ve always had a problem sticking to a savings plan or are a compulsive spender, don’t expect that you will change overnight. Begin by setting some small goals so you can build the confidence to tackle bigger issues down the road. Keep in mind that budgeting is not a sprint. It’s a marathon. And above and beyond everything, understand that this doesn’t have to be about deprivation. If you follow these tips you should be able to easily have a budget you can live with and that will help you achieve financial peace of mind and without a great deal of self-sacrifice.

2. Wipe out old accounts

If you’re typical you have old unused bank accounts and dusty old checks or bank statements just sitting around somewhere. If so, now would be an excellent time to rid yourself of those checks and bank statements and close any accounts you’re not really using. If you’ve been unhappy with your bank for some reason, this would be a good time to switch. While you’re checking out those accounts, make sure to review your retirement accounts. You might find a 401(k) from a previous employer you had just forgotten about. If so, consider rolling it into your current 401(k) account so that you have only the one to deal with and can streamline your retirement savings.

3. Review your W-4

It might feel great to get a big tax return but if you got one earlier this year what you’re also doing is giving your Uncle Sam an interest free loan out of your paychecks. Get out your W-4 and take a close look at how much money you’re having withheld. You might be better off changing your withholding so that you would have more money every month instead of giving Uncle Sam that free loan. In fact, as revealed in this short video, your goal should be to end up paying  no taxes and getting no refund.

 

4. Let go of all that paper

Whether it’s your utility bill, checking account or a student loan account, almost all of them have paperless billing options. You can cut back on those stacks of paper spilling all over your desk by choosing to get these bills electronically. This works especially well if you’re paying your bills online anyway. So, choose paperless billing wherever possible. Those piles of clutter on your desk or kitchen counter – and the environment – will all thank you.

5. Do some comparison shopping

How long has it been since you comparison shopped to see if you could get a better deal on your cable, car insurance, cell phone plan or any other monthly items? If it’s been awhile, now would be a good time to do this. It’s best to shop for better rates at least annually but even better to do it semi-annually. This will help ensure that you’re not paying too much for those services.

6. Review your insurance coverage

Has it been like forever since you reviewed your life insurance or homeowners policies? If this is the case, take some time to give them a check up. Review all of your policies to make sure that you have an adequate amount of coverage. For example, if you’ve recently had a baby or got a big raise you might want to upgrade your life insurance. The cost of building houses has risen fairly dramatically over the past five years so you might want to increase your homeowner’s insurance policy to make sure you could rebuild your house in case you suffered a total loss.

7. Make an inventory

If you have either renters or homeowner insurance you need to have an inventory of all your possessions. Then if you suffer a disaster, it will be much easier for you to replace everything. If you don’t already have a home inventory, take time to make one. The simplest thing is to take photos of your stuff, especially those big-ticket items such as your big screen HDTV and furniture. Then write down approximately what you paid for each item and be sure to start saving receipts for any new items you bring into your home.

8. Sort out your paperwork

You’ve probably managed to accumulate a whole bunch of documents that you don’t really need any more. Go through everything, find the documents you don’t really require any more and shred them. As an example of this, the federal government says that you really only need to keep your bank statements for a year. You can also get rid of your tax documents and their supporting records after seven years. So if you’re like us and have bank statements dating back to 2009, just get rid of them.

In summary

Doing all of these things might seem like a terrible chore but in fact they will probably only take you only about a day total. And just think how much simpler your life will be when you complete them. You’ll have gotten rid of all those stacks of paper that have been taking up space on your desk, you’ll be spending less on reoccurring items such as cable or your phone bill, you’ll be creating an emergency fund and will have better insurance coverage. Wouldn’t this be worth investing a Saturday?

How To Be Responsible When Using Your Emergency Fund

hammer and piggy bankThere are many reasons why you need an emergency fund. It is not enough that you make the right spending choices. It is not enough that you spend within your means. You need to prepare for any unexpected situation because it can cause you to fall into debt so easily.

A lot of people have gone through life without debt. They have made the right choices when it came to spending and have used credit wisely. They have invested in their home and made smart choices about how much they can afford to borrow. However, these acts will not exempt these people from falling into a financial problem. One sickness that requires thousands of dollars in payment or one tragic accident or job loss can quickly pull you under. All because you do not have an emergency fund.

According to a survey done by Bankrate.com last June 2014, 50% of their survey respondents have less than 3 months worth of expenses in their reserve fund. More than half of that (or 26% of the respondents) do not have a single cent tucked away for emergencies. The survey revealed that some consumers failed to save for emergencies because they did not plan for it. They pay off the usual expenses like utilities, rent/mortgage, etc and will only save what is left after everything is paid off. But guess what? In most cases, there nothing left to save.

Some people say that they find it hard to save because they have other priority expenses. They put their emergency fund last on the list. For instance, some people choose to save up for a new car or the down payment of a new home instead of saving on their emergency fund. Some people choose to pay off debt first.

While these expenses are important, you have to know that preparing for emergencies is also very important. It should be comforting to know that although they are not the majority, 40% of the Bankrate survey participants, have three months worth of expenses or more in their emergency accounts. 23% said that they have 6 months or more in in case of emergencies.

3 ways to use your emergency savings

Although there is a lot of room for improvement when it comes to building our emergency finances, it is also important to consider how you will use the money you have saved. You may have the emergency fund all saved up but you need to commit to how that money should be used in the first place. Some people blow up their reserve fund because they did not clearly define what an emergency is. When the more devastating disaster strikes, they are left with nothing.

One of the emergency fund best practices that you should learn is how you can learn to use this fund correctly. To help you decide, here are 3 important uses for an emergency fund that you should not hesitate to push through.

After an unexpected job loss.

Obviously, this is an emergency. When you do not have any income to get your funds from, then you need to dip your hand into your emergency savings. The only other alternative is to rely on your credit cards – which will put you in debt. That is not really a good idea because you will just make your financial situation worse. Just use your emergency fund frugally while you are in the midst of looking for an alternative source of income.

After a natural disaster.

Another good reason to use your emergency resources is to help you survive a natural disaster. This is another one of the unexpected disasters that you are saving up for. According to an article published on FinalDaysSurvival.com, preparing for a natural disaster is not only about protecting what you have as the disaster is happening. It is also about recovering from the aftermath. And when it comes to recovery, we all know that it usually requires money. If your house was flooded or totally wrecked, there are government financial aids but you can act on rebuilding your life if you have your own emergency savings.

During a health emergency.

Lastly, you need to use your emergency fund for your health. This is one of the unexpected expenses that you should not hesitate to pay off – especially if it is a matter of life and death. With the high cost of getting health care, it is common for some people to deplete their reserve fund just to pay this off. This is okay as long as you make a plan to rebuild your emergency fund. Dave Ramsey, in one of his shows, encountered a caller who had this dilemma. His medical bill threatens to deplete their emergency savings and he was hesitating to do it. Watch the video to hear what Dave Ramsey had to say about it.

3 ways you need to think twice before using your reserve fund

Of course, the use of emergency funds go beyond the three that we have listed above. But the other uses of this reserve fund will have to be done carefully and smartly. While they are smart uses of your money, it does not always mean that you should use your emergency money on them. You need to analyze the situation first before you go ahead and use it.

Here are the three examples of the emergency fund uses that you need to think twice before spending on them.

When there is a financial opportunity.

There is an interesting article in Investopedia.com about emergency savings being a bad idea. The author said that putting your money in a savings account will restrict its growth. This is probably the reason why some people tend to use their emergency fund to help them fund a financial opportunity. While investing to grow your money is okay, make sure that you put your funds somewhere it can be easily liquidated. That way, if an emergency strikes, you can easily take the money and use it to survive a disaster.

When you have unexpected home and car repairs.

Most people will think it is okay to use your emergency fund for home and car repairs. But here’s the thing – these are not unexpected expenses. If you know that your car’s transmission needs replacement, this is something that you can monitor and prepare for. The same is true for any repair or maintenance expenses that your home requires.

When you need to buy basic necessities.

Unless you lost your job, never use your emergency fund to buy basic necessities. If you find yourself in a situation wherein your money cannot afford to spend on basic commodities, then you should know that there is something wrong with your budget. Buying your everyday needs should not be an emergency. It should be something that your finances can easily accommodate. There might be an area in your finances that requires you to spend more than you should. Or maybe your lifestyle is beyond what you can afford. This may be a sign that your finances is not being used correctly.

It is true that saving can literally save your life but only when it is available when you need it the most. Make sure you decide on what is the right way to use your emergency fund. Just because you run short of money, that is enough reason to tap into your emergency resources. Be strict and develop self control. That is how you can hope to have a secure financial future ahead.

11 Financial Things To Do Before Turning 30

young woman thinkingTurning 30 is a kind of watershed moment in most people’s lives. It sort of marks the end of young adulthood and the real coming into your own as a person. You will likely have new responsibilities including maybe even marriage and children but regardless of this the number one thing on your list should be your finances. This is especially important if you’re married, as conflict over money is the number two reason why couples end up divorcing.

What do you need to achieve financially by the time you turn 30? Here are 11 financial things you should have done or be working on. As you might imagine these goals are not for everyone and all eleven may not be feasible for you. But it’s important to keep them in mind at least as general guidelines.

Be prepared for large expenditures

Big expenditures will be coming your way and you should be saving up, anticipating and preparing for them. As an example of this, you may soon be buying a house, having children and other comparable major expenses. If necessary you will need to alter your lifestyle to be prepared for these expenses so that you will be able to pay for them without having to go into debt.

Have an emergency fund

In the event you don’t now have an emergency fund you need to start building one so you will have money available to pay for unanticipated expenses such as a serious illness, an auto accident or if you were to lose your job. Experts generally say you should have the equivalent of six months worth of living expenses banked and, of course, a year would be even better. If six months seems out of reach try for the equivalent of at least three months of your living expenses.

Live within your means

By the time you hit 30 you should know how to live within your means but be able to also enjoy life. You should know your priorities or what it’s worth spending money on and how to save in other areas to pay for those guilty little pleasures like your morning latte. It’s acceptable to splurge on yourself periodically so long as you’re cutting costs aggressively on other items. And understand that what other people are skipping on may not be anything you would want to give up.

Automate your finances

By now, you should know about automating your finances. For example, you should be sending a part of your paycheck automatically to your savings account every month so that you’re paying yourself first. If you’ve already built up a fairly nice emergency fund, you might send the money to your broker for investing. The simple fact is that most people don’t miss the money when it’s taken out of their paycheck before they ever see it. This just makes saving money a lot easier.

Max out your 401(k)

You should now be maxing out or at least meeting your employer’s match for your 401(k). When your employer matches your contribution to your 401(k) this is like free money and many financial experts say it’s the average person’s best friend. The money you put into a 401(k) is pretax meaning that it doesn’t count against your income. If times get tough you could borrow against your 401(k) and when you pay back the money, you’re basically paying interest to yourself. Be aware that if you do borrow from your 401(k) you need to start paying back the money within six months or it will be treated as ordinary income and taxed accordingly. And of course, you will have to pay taxes when you begin withdrawing the money at age 70 ½. In the event your employer does not offer a 401(k) you should be putting money into a conventional IRA

Have a Roth IRA

The money you put into a conventional IRA is also pretax like a 401(k). But it’s good to also have a Roth IRA. The reason for this is that the money you put into it is treated as taxable income but it’s tax free when you begin withdrawing it.

Make a will

I understand that its tough to think about your death when you’re only 30 years old but accidents and illnesses do happen. Even if you’re single you need to have a will so that you will have control over what happens to your money and physical possessions. Of course, this is even more critical if you’re married and have children.

Prioritize and pay off your high-interest debt

If you still have high-interest debt you need to get to work paying it off. Most experts say that the best way to pay off high-interest credit card debt is by using a technique called snowballing. It’s where you prioritize your debts from the one with the lowest balance down to the one with the highest. You then focus on paying off the one with the lowest balance. When you get it paid off you will have “new” money available to begin paying off the card with the second lowest balance and so on. This is called snowballing your debt because as you get each one paid off, you should pick up momentum to pay off the next one just as a snowball picks up momentum as it rolls downhill. If you think this technique might help you, watch this video from Dave Ramsey for more information.

If you have federal student loan debt you can’t snowball it but you could change repayment programs so that you would have better terms and lower monthly payments.

You were probably put in 10-Year Standard Repayment after you graduated from school. This means you have a fixed term of 10 years and fixed monthly payments. Another program such as Graduated Repayment or Pay As You Earn Repayment could be a better option. If you would like to know more about these options go to the website https://studentaid.ed.gov/repay-loans/understand/plans.

Improve your credit score

Like it or not, that little three-digit credit score is what rules your credit life. It was invented by a company that was then known as Fair Isaac Corporation but is now simply FICO. If you don’t know your FICO score you can get it on the website www.myfico.com. You can also get it from any of the three credit reporting bureaus – Experian, Equifax and TransUnion or from an independent source such as CreditKarma.com. If you find that you have a low credit score of, say, less than 600 you need to get to work to improve it. One of the components that make up your score is your debt-to-credit ratio. This is calculated by dividing your debt by the total amount of credit you have available. For example, if you have total credit card limits of $10,000 and have charged $2000, your debt-to-credit ratio would be 20%, which would be very good. If you find your ratio is above 40%, you will need to either pay down some of your debts or get your credit limits increased. Do this and your credit score should improve at least somewhat. Beyond this, you need to check your credit reports to see what’s dragging down your score. If you have missed payments, skipped payments or defaulted on payments, you will need to get to work to correct these issues.

Know something about negotiating

It’s important to be able to negotiate successfully over things such as salary and with service providers. By now you should at least understand the elements of how to negotiate successfully.

Have read a few books

Finally, by the time you reach age 30 you should have read a couple of books about personal finance. Two of the best of these are Your Money Or Your Life and Dave Ramsey’s Total Money Makeover.

20 Financial Terms You Should Definitely Understand

Two smiling girls have coffee timeWhen you hear or read terms such as AIM, net worth or AGI does it make you go “huh”? If so, you’re certainly not alone. There are a lot of financial terms kicking around out there that many people don’t understand. Financial gurus are especially fond of tossing around terms such as asset allocation or amortization without providing any sort of explanation – with the assumption that you’ll just know what they’re talking about. Here to make matters a bit simpler are explanations of 20 terms associated with money that you definitely should understand.

FICO score

Your FICA score is a three-digit representation of your credit history. Banks and other lenders use your score to measure how creditworthy you are. If you’re wondering what FICO means it’s an acronym for the company that used to be Fair Isaac Corporation and that developed the methodology for calculating credit scores. FICO scores go from a low of 300 to a high of 850 and, of course, the higher your score the better the terms you’ll get on your next credit card or loan.

Compound interest

This is the interest that you earn on whatever amount you deposit when you’re investing or saving plus any interest you’ve accumulated over time. On the other hand, if you’re borrowing money it’s the interest that’s charged on the original amount you borrowed as well as any interest charges that are added to your outstanding balance over time. As you might guess, it’s much better to earn compound interest on your savings then to pay it on the money you borrow.

Net worth

This is the difference between your liabilities and your assets. The way you calculate yours is by adding up all of the money or investments you have such as the current market value of your house and car as well as any balances you have in checking, savings, retirement or other investment accounts and then subtract your debts. This will need to include your credit card balances, mortgage balance and any other obligations or loans. The net worth number you get will help you understand how financially healthy you are.

Asset allocation

This is the process you use to choose what percentage of your portfolio that you’d like to invest in various asset classes. It’s based on your personal risk tolerances, time horizon and your goals. Bonds, stocks and cash or the equivalent of cash (think CDs) are the three major types of asset classes.

Bonds

These are essentially investments in debt. In other words, when you purchase a bond you are lending money to a government or corporation for a specific amount of time at a fixed interest rate. When you do this you receive interest payments periodically over time. When the bond matures, you get the loan amount back.

Rebalancing

When you buy or sell securities over time in order to maintain your desired allocation of assets it is called rebalancing. As an example of this if you’re allocating 60% stocks, 20% cash and 20% bonds and the stock market has done well over the past year, you might rebalance your allocation to 70% stocks, 20% cash and 10% bonds.

Capital gains

Capital gains is the amount that an asset or investment increases in value over its original purchase price. However, this gain is just a paper gain until you actually sell the asset. In contrast, a capital loss is when your asset or investment decreases in value. When you sell an investment, you pay taxes on both short-term capital gains and long-term capital gains. On the other hand, if you suffer a capital loss this could help reduce your taxes.

Amortization

This is when you pay off your debt in fixed payments over a specific amount of time. As an example of this your mortgage is amortized with monthly payments that are computed based on the amount of money you borrowed, plus the interest you will be required to pay over the life of the loan.

ARM

This is short for adjustable rate mortgage. It’s the kind of mortgage where the interest you pay increases or decreases based on a particular benchmark. These mortgages generally start out with a fixed rate for three to five years and the interest rate then resets every year thereafter based on some benchmark, plus an additional amount. As an example of this, if you have a five-year ARM your interest rate will be set for the first five years after which it will increase or decrease based on your mortgage’s terms.

Escrow

This is an account that is kept by an independent third party on behalf of two other parties to a transaction. For example, if you are buying a house, you will deposit money into an escrow account that the seller can’t withdraw until the contract’s terms have been fulfilled and the sale completed.

Defined-benefit plan

This is a retirement plan sponsored by an employer such as a pension where you get a specific retirement benefit based on some formula. This formula may include your earnings history, age and length of employment. You as the employee may or may not be obligated to contribute anything to the plan. Many companies no longer offer these plans due to their high costs.

Defined-contribution plan

Many companies now offer these retirement plans as a benefit to their workers. This is where the employee or maybe both the employee and employer make contributions on a regular basis. The most common example of this type of plan are 401(k)s and 403(b)s. One of the biggest advantage of these plans is that you don’t pay taxes on the amount you put in every year.

Stock options

This is an employee benefit where the owners of the option have the right to buy their employer’s stock at a preset price and within a specific period or on a specified date. These are often used by companies as management incentives. For example, if an executive helps boost the company’s stock value above the price of his or her option, the manager could then buy the stock at the lower price and pocket the gain when she or he sells it.

Permanent life insurance

Permanent life insurance is a kind of policy that provides coverage over the insured’s lifetime and also has an investment component called cash value. After a certain period of time, the policyholder will be able to borrow or withdraw against the cash value of the policy. As a rule, the premiums paid for a permanent life insurance policy will be more expensive than for term life.

Term life insurance

Term life is a policy that covers you over a set period which can be anywhere from five to 30 years. If you die during that set period of time, your beneficiaries get a payout. If you don’t, the policy will expire with no value. Of course, you can always decide to renew coverage after your term is over. Plus you can cancel at any time without penalty

Private mortgage insurance

If you want to buy a house and have a down payment of less than 20%, the mortgage lender will require you to get this type of insurance. It is also often call PMI. Its purpose is to protect lenders against a loss if you default on your payments. If you are required to get private mortgage insurance this will increase the premiums that you will pay every month.

Umbrella insurance

Umbrella insurance is a type of policy that offers extra liability coverage beyond what is provided by yoVideo thumbnail for youtube video 10 Signs That Your Financial Management Skills Suck!ur home, boat or auto insurance. If you feel you’re at risk for being sued for other people’s injuries or property damage you might consider buying this type of insurance.

AGI

AGI is an acronym for adjusted gross income. It is calculated as your gross income minus certain IRS-specified deductions. When you file your taxes you fill out your AGI at the bottom of page 1 of Form 1040. It is used to determine your taxable income minus any IRS-qualified deductions.

Itemized deductions

These are expenses that the IRS lets you subtract from your adjusted gross income, which reduces your taxable income even further. This can include mortgage interest you paid, dental and medical costs or gifts to charity.

Standard deduction

If you decide not to itemize your deductions this is a standard amount you can use to reduce your taxable income. It will be based on your tax-filing status and it’s the federal government’s way of ensuring that at least some part of your income is not taxed.

4 Ways You Can Stop Living Paycheck To Paycheck

walking paycheck to paycheckDo you want to quit living paycheck to paycheck? Of course you do! Who wants to live a life wherein your income just passes through your hands? This is the life of a person who lives from paycheck to paycheck. These are the people who always have to stretch their salaries to the last penny. They have budgeted their money so that everything goes to a particular expense.

While this seems organized, it is highly stressful. People who just get by on their salaries are those who do not have the extra money to contribute towards their savings. The most scary fact is, these are the households that are usually one emergency away from a financial crisis.

An article published on CNN.com revealed that 25 million household belonging to the middle-class are living paycheck to paycheck. These are the families that are not unemployed. They have stable jobs, own their homes and drive a car. But why are they living this way?

The article mentioned that one-third of American households spend all of their salaries at the end of the month. 66% of these come from the middle-class. These are the families that have $41,000 as their median income. The data came from a study conducted by Brookings Institution.

This is a scary data to look into and it further shows how the middle class is really losing ground in our society. While they may appear to be more affluent, their financial situation is not much different compared to poor households – those with an annual income of $21,000 (and no assets). This means that having a higher income does not really guarantee that you can move on to a better financial position.

4 tips that can help you stretch your limited resources

So what can you do to stretch your limited resources and get out of a life of living paycheck to paycheck? Here are 4 tips that we have for you. Most of these moves should give you the extra money in your budget to help you save or invest – two of the most proactive ways you can improve your financial situation.

  1. Opt for a cheaper home. One of the biggest expense in a household is spent on their home. Regardless if you own your home or you are renting, this is the biggest percentage that eats into your income. Sometimes, owning your own home makes it even more stressful. Some homeowner regrets emerged once their home loan payments start getting compromised. And the housing expenses does not end with the monthly mortgage or the rental cost. It also includes the utilities, home repairs and even the occasional purchases for broken furniture, appliances and equipments. One of the ways that you can effectively get out of living paycheck to paycheck is to lower this biggest expense in your budget. Rent in a smaller home if you have to. Sell your home and buy a smaller one. This will lower your monthly payments on the home. Not only that, you will have lower utility bills too. After all, maintaining, heating and cooling a smaller unit is cheaper.
  2. Seek out financial aid. Analyze your financial situation and see if you can qualify for any government aid. It may be food stamps, a health care coverage, or even a straight out cash assistance. You can also explore the benefits that your employer is offering. You might be eligible to receive some benefit from them. You can even look into your tax refund. Maybe you are allowed to get a higher refund on your taxes. These will help you get extra money.
  3. Lower your grocery expenses. While this is not your biggest expense each month, this is the biggest discretionary expense that you can cut back on. It may be a bit tough considering the fact that food prices are going up nowadays. USAToday.com reported some statistics from the Bureau of Labor Statistics that revealed a 0.4% increase in food prices in February this year. Although you are battling with the rising commodity prices, you can find ways to still cut back on your grocery expenses. If your weekly budget is $50, try to slash it down to $30. Use coupons, utilize leftovers, grow your own herbs, make your own cleaning products, shop in bulk – there are so many things that you can do. It will take a bit of getting used to but this is possible if you really want to stop living paycheck to paycheck.
  4. Increase your cashflow. Lastly, you want to think about how you can increase your monthly income. If that means getting another job or putting up a freelancing side gig, it all depends on what you think you can accommodate in your busy schedule. It will involve sacrifices – both on your physical body and your time for yourself and your family. But you do not have to do this for a long time. You can give yourself a few months or even just a year – just enough time for you to build up your savings. We suggest that you look for a passive income business that will not eat up most of your time and yet can provide you with continuous income.

These four tips should be able to help you move away from living paycheck to paycheck.

Reason why your income is never more than enough

Apart from increasing your extra money so you can build up your savings and invest your money, you might want to identify why you are using up your salary the way you do.

Well we have one solid guess: you base your spending on your income.

We have this habit of upgrading our lifestyle whenever we get an increase. When you get a promotion, you buy a house. When another promotion comes in, you scout for a second home. When yet another promotion is lined up, you buy a luxury car. While this may seem normal, how we buy these things lead to our destruction. Instead of saving the money from the salary increase that comes with the promotion, we dedicate it to pay off mortgages and car loans.

It is apparent that there is something wrong with how we spend our money. According to an article published on BusinessInsider.com, 20% of Americans admitted to spending more on their cellphones than their groceries. While having a cellphone is convenient, it is not a necessity – at least the expensive ones are not.

Basing your spending on your income is what keep you living paycheck to paycheck. It is true that it can help us be sure we will not be spending more than we should.  But you should keep yourself from basing your expenses from it.

That simply means if you earn $40,000 a year, you will also set up a lifestyle that requires that much money to support. So what should you do instead?

You have to learn how to base your spending on a comfortable lifestyle – not necessarily your dream lifestyle. At least, not yet. Most of our dream lifestyles involve really extravagant spending. Given that you want to get out of living paycheck to paycheck, you may want to establish a lifestyle budget that is just right. That means you are provided with everything that you need to survive comfortably. It is not affluent or extravagant – but just right.

Once you have done this, you can live debt free on a $30,000 a year income – easy! If you have decided on living at $30,000 a year (that is $2,500 a month), you can earn $40,000 and put aside any extra into your savings. You can also invest that money so it can earn you money even while you are doing nothing.

That is how you really stop living paycheck to paycheck.

Surprising Fact – Secured Credit Cards Are Not Just For Those With Bad Credit

If you’re interested in personal finance you’ve probably read several if not a dozen different articles promoting secured credit cards for people with tarnished credit reports or poor credit scores and are unable to get conventional credit cards. While this is true it’s not the whole truth. The “nothing but the truth” is that secured credit cards can be great for young people that are trying to establish a credit history or for foreign citizens that are living in the US and have no American credit history let alone a credit score.

If you have poor credit

Have you checked your credit score recently? You can get it free from any of the three credit reporting bureaus or from sites such as CreditKarma.com or CreditSesame.com. This will not be your true FICO® score as the only place you can get it is on the site www.myfico.com. You will have to sign up for its Score Watch program that costs $4.95 for the first month and then $14.95 a month thereafter. But you will get two FICO Credit Scores, two Equifax Credit Reports™, FICO® Score monitoring and alerts
The reason why it’s best to get your true FICO score is because that’s the one that 90% of all lenders use in deciding whether or not to grant you credit. FICO scores range from a low of 300 to a high of 850. When you check your score if you find it’s below 580 potential lenders will see you as having a “poor” credit score. If this is the case getting a secured credit card could be a good way to build up your credit so that you will have a higher credit score. And you want to have a higher credit score because there is an inverse relationship at work here. The higher your credit score, the lower the interest rates you will be charged. Conversely, the lower your credit score, the higher will be your interest rates.

How secured credit cards work

To get a secured credit card requires that you make a refundable security deposit that then works as cash collateral in the event you default on your payments. Your credit limit will be based, of course, on how much money you deposit. While it’s possible to get a credit limit of more than 100% of your security deposit it’s more often 50% to 100%. What this means is that if you make a $300 deposit on the card that’s its credit limit. However, if your lender offers only 50% of your deposit then your credit limit would be $150. Clearly this is not as good a deal. It would be much better to find a card where your credit limit is equal to your deposit.

If you’re trying to build credit

No matter what your circumstances might be, it’s a good idea to get a secured card if you are trying to build or rebuild your credit. You are basically guaranteed to get approved because you’re the one that’s taking the financial risk through your security deposit and not your bank or lender.

No one will know

One really good thing about a secured credit card is that no one but you will know it’s a secured card. They are not emblazoned with the word “secured” on them. If you pull out the card on a date or to pay for a business lunch no one around you will know that you have no or bad credit and had to get a secured card.

Choosing the right one

Virtually all banks, major lenders and even credit unions offer secured cards. Before you choose one be sure to read the fine print carefully. This is where you’ll find the card’s fees and APR as well as other important information. But there is one thing to check out that’s more important than any other. Make sure that how you use the card will be reported to all three credit bureaus – Experian, Equifax and TransUnion. You need to make sure your use of the card will be reported to all of these bureaus because not all lenders pull information from all three. You want to create a positive history with a secured card and then make sure it’s relayed to a potential lender regardless of which credit bureau it uses.

What else to look for

Maybe this goes without saying but you should look for the secured card that has the lowest possible fee structure and APR (annual percentage rate). Unfortunately, many secured cards have transaction fees for each purchase, application fees, monthly fees to maintain the card, higher interest rates. no grace period when you make purchases and other fees that unsecured cards just don’t have.

The interest rate

Unfortunately the interest rate on a secured card or its annual percentage rate can be as low as 9.90% or as high as 22.99% or even higher. When the secured card has low or no upfront fees, it often has a higher interest rate. Conversely if the card has high upfront fees or annual fees, it could have a lower interest rate. In addition, there are often many other fees that are determined by the lender and so differ from card to card.

A secured card is not a prepaid card

It’s also important to understand that a secured card is not a prepaid card. When you make a deposit to “secure” a card and make a purchase, your balance is not reduced. Of course, you will still be required to pay for whatever you charge on a secured card each month just as is the case with a conventional credit card. However, the secured deposit balance will remain the same until you close your account – unless the card’s terms state otherwise. In comparison, with a prepaid card your balance decreases every time you make a purchase until you reach a zero balance. At that time you will need to either add money to the card or throw it away.

Note: If you’d like to know more about prepaid credit cards and what they’re good for, watch this video courtesy of National Debt Relief.

 

They aren’t negotiable

If you search carefully you may be able to find a secured card that has few or no fees. However, some cards can have a lot of fees and they can be very high. With secured cards these fees are rarely negotiable and some have fees of more than $14.95 a month in addition to application fees, late fees, over-the-limit fees, cash advance fees, annual fees and more.

You won’t get any rewards

Another downside of secured cards is that they don’t come with any rewards. You won’t get those nice little extras that many regular cards provide such as airline miles or cash back. But remember the reason that you would get one of these cards is not for its rewards. It’s to help you build or rebuild your credit, which could serve you well in the years ahead.

The net/net

The bottom line of a secured card is that it could help you build or rebuild your credit but it can be a slow process. For people that just had a bankruptcy or just completed debt settlement and don’t have good credit, it can be a good to get a secured card to help rebuild their credit scores. But if you don’t have a lot of negative information on your credit report such as late or missed payments or debts that have gone to collection then adding a secured credit card won’t turn things around for you as if my magic. The fact is that a secured card just won’t be an instant fix.

Want To Make A Smart Debt Move? Ask These Two Questions First

choosing between good and bad creditMaking smart debt choices is the best way for us to learn our lessons after the last recession. While some think that the ideal solution is to completely eliminate debt from our lives, this is not always the best scenario for everyone. For most Americans, we still need the financial boost that debt can provide in order for us to propel our wealth to greater heights. We have mentioned it again and again – the concept of credit is not really the problem. It is our inability to implement proper credit management that put us through financial hell in the past few years.

According to Bloomberg.com, consumer debt in the last quarter declined for the first time in the past 12 months. This is caused by the decrease in new mortgage loans that is at its lowest since 2000. The data coming from the Federal Reserve Bank of New York mentioned that the household debt of Americans dipped by 0.2%. This is equivalent to $18 billion. That means from January to March, consumers were able to put the total consumer debt to $11.63 trillion. It is still a big amount but at least it is going down. The only loans that are increasing at this moment are the student loans and auto loans.

These data does not really show if we are making smart debt choices already. While the American debt crisis is improving, it is definitely far from over. We need to continue pursuing better financial and credit management habits, lest we fall into the same debt pit – or more accurately, dig ourselves deeper into the one we are currently in.

2 questions to ask before making a debt decision

Since debt elimination is not the solution to improve our financial situation, it is obvious that we need to make sure that we can making smart debt moves instead. A lot of people are still skeptical as to whether there is such a thing as good debt. Believe it or not, there is. It might be tough to consider debt as a good one because we have gone through so much trouble because of it. But like what we said, debt itself is not the problem. It is the consumer habits behind that debt that led to our financial crisis.

If you believe that there is such a thing as a good debt, how can you ensure that you are choosing the right one? How does one determine if they are getting a smart debt choice or not?

There are two important questions that you need to answer.

Is the need for debt temporary or is it a permanent requirement for your lifestyle?

This is the first question that you need to ask yourself. What is this debt being used for? When your debt is only a temporary need that will help you improve your lifestyle, then that can be considered as a good credit investment. But if this particular credit is something that you will need to make every now and then to support a lifestyle upgrade, then this is clearly a bad debt. Going through with this loan is not a smart debt decision.

For instance, if you are getting the loan to finance a home that you want to buy, that can be considered as a good debt – as long as you are borrowing an amount that you can afford to pay off. But if you are borrowing money to finance a luxury car and you need to keep on using your credit card to finance the gas and maintenance costs, then that is not a good debt.

It is just like making a business loan. This type of debt can go both ways. If your business loan is a one time loan that will help you make profit, then that is a good debt. But if you are forced to keep on borrowing money to pay for the overhead expenses of the company, then this is already a bad debt. You need to reconsider your business before you take on more debt for it.

Make sure that the debt that you will borrow has a timeline. If you can see an end to your debt payments, then that is credit that you can take. But if there is no definite end to the debt payment, then you may want to rethink the need for that loan.

Will reason for the debt be worth the time and amount it will take to pay it back?

Debt, when you let it grow is powerful enough to control what your future will be like. You do not want it to have this power over your life. So before you take on that mortgage or that student loan, ask yourself first: will homeownership be worth being in debt for the next 30 years? Can you live with the thought that for 3 decades, your lender will be getting a portion of your income? For that luxury car, do you think driving in a flashy vehicle is worth making your creditors rich? After all, the interest rate you will be adding to the amount you borrowed is making banks and lenders rich.

According to an article published on TIME.com, 5 years after the Great Recession, banks are reaping in record profits. The report coming from Wall Street Journal revealed that banks earned $40.24 billion from April to June of 2014. The data also revealed that the profits of these banks are not coming from trading – but more on the interest of the loans they are distributing to the consumers. Both commercial and consumer lending rose by 13% and 6% respectively.

If you want to pass on your hard earned income to the bank via the interest of your loan, then go ahead with the debt. But if not, then you may want to find more reason to make your debt more worthwhile.

Answer these two questions and you should be able to identify if you are making a smart debt choice.

How making smart credit choices can affect your future

Debt will always be one of the major financial decisions that you have to make – regardless of the amount. Do not belittle the small credit purchases you make through your credit card because that will accumulate over time.

To help you make the right decision, here are some tips that you can follow.

  • Know your current finances first. It is important for you to understand just how strong your financial situation is. Make sure that your money can sustain the additional burden that this new loan will bring to your budget.
  • Strike a balance between your current and future finances. More accurately, you want to balance your financial situation today against a conservative expectation of your future earnings. It is not right that you only consider your present income. What if your future income decreases? How can you afford to pay it off? According to the Report on the Economic Well-Beaing of US Households released by the FederalReserve.gov in the, 16% of the participants expected their income to decline. If this is the same as your sentiment, make sure you will not maximize the amount of money that you will borrow if it is based on your current income.
  • Create a payment plan. The only way for you to determine if you can afford to pay off your debt is by creating a payment plan. Before you proceed with the loan, check if the payment plan is something that you can live with.
  • Make sure you are getting a good debt. The last tip that we have for you to make a smart debt move is to answer the two questions mentioned above. If the debt is only temporary and you think it is worth it, then what you are about to borrow is a good debt.
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