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College without debt is a family affair
Julie Johnson is a 30-year-old
single mom with a 7-year-old daughter. They both love to collect
things and shop.
"I collect Longaberger baskets
and love buying things for my daughter," she says.
Like many little girls, her daughter
collects Barbie paraphernalia and has more of it than she needs.
Julie's salary as a legal secretary and the
sporadic child support payments she receives are enough to cover
her basic living expenses. Credit cards fund the weekly shopping
sprees.
Julie confides to the Diva, "My financial
problems started two years ago when I bought a computer with 'free
financing' for a year." She planned to save up for it, but
couldn't squeeze the savings out of her tight budget. On the day
of reckoning she had to use plastic to pay the bill. It happens.
"Free financing" deals often coax hard-working folks into
buying things they really can't afford; but shame on anyone who
lets it happen twice.
"Plastic-to-the-rescue" worked so
well that it became Julie's knight in shining gold-card armor, showering
her with clothes, baskets, Barbies, vacations and whatever else
she wanted but didn't have the money for. Her credit card debt climbed
to $7,450 and will continue to soar unless she makes some serious
lifestyle changes. "I just bought my credit report and found
that I am in the 33 percentile," she tells the Diva. "That
is not where I want to be."
That's not where the Diva wants her to be, either,
and she's going to work with Julie to help her get back on track.
Tracking the expenses
Here's the harsh reality Julie and her daughter need to
accept: "You can't have it all." It's not a matter of
deserving; it's a matter of affording. Julie now spends $730 a month
more than she brings in; that's $8,760 a year, plus interest. It's
only a matter of time before the plastic dries up. Then what? She
doesn't want to think about it; she'd rather spend her time and
energy analyzing the problem, getting her spending under control
and turning her financial life around.
Here are the spending cuts that will halt the
deficit spending and get Julie back on track:
- Groceries (-$30): Say
goodbye to frozen peanut-butter-and-jelly sandwiches and bottled
Frappuccino. A 7-year-old can make a peanut-butter-and-jelly sandwich,
and her mom can brew a cheaper brand of coffee at home.
- Clothing (-$750):
There is no money for recreational shopping for clothing that
no one really needs.
- Daughter's allowance
($-10): Julie gives her daughter $10 a month to fritter
away at the mall. Why?
- Gifts/holidays ($-40):
To support the war on debt, friends and family will have to be
happy with tiny gifts and large love notes until the debts are
paid off.
- Pocket money (-$20):
Cutting corners is part of the belt-tightening
effort.
The debt is making Julie sick, but she hasn't
been able to afford the therapy and medication she needs. Cutting
expenses by $850 a month will end the $730 deficit spending, provide
$70 for her medical treatment and free up an additional $50 to pay
down the debt.
Paying down the debt
If Julie continues to make minimum payments on her high interest,
$7,450 credit card debt, it will take 16 years and she'll pay a
whopping $5,000 in interest.
Bankrate.com's "The
true cost of paying the minimum" calculator is a useful
tool for estimating how long it will take to pay off a credit card
balance, what the interest will be, and how much you will save if
you make more than the minimum payment each month.
Using the Diva's "payment push" strategy,
Julie can be debt free in just over three years, and her interest
payments will be less than $1,600. Here's how the "payment
push" strategy works:
- Prepare a "debt schedule."
Include columns for the name of the debt, the balance due, interest
rate and current payment. Rank by rate; the highest goes on top:
|
Debt schedule
|
|
Debt
|
Balance
due
|
Interest
rate
|
Current payment
|
| Kohl's |
$580
|
23%
|
$30
|
Capital
One
|
$500
|
18%
|
$20
|
Citibank
(1)
|
$2,680
|
14%
|
$60
|
| Citibank
(2) |
$3,690
|
11%
|
$80
|
| Total
credit card debt and monthly payments |
$7,450
|
|
$190
|
- Make a commitment to wipe out the debt.
A daily affirmation helps: "Credit is my enemy. I practice
fiscal restraint so that I can free myself of debt and develop
smart spending habits."
- Attack the debt on the top of the list
first. All extra, available cash is used to pay down the debt
with the highest interest rate first. The "payment push"
strategy includes raises, bonuses, gifts, back child support payments
and belt-tightening as weapons in the war against indebtedness.
- Hammer away at the rest of them. When
the first debt is paid off, use the cash that is freed up to pay
off the next debt in the "debt schedule." Relentlessly
seek out ways to cut costs and bring in more money to apply to
the bills until the last debt is history.
Belt-tightening will give Julie an extra $50
a month to pay off debts; she can get rid of the two with the highest
interest rates within a year. Paying them off will free up $100
a month for the "payment push" on the $6,370 Citibank
balances, and have her debt-free in early 2005. The Diva didn't
include raises, bonuses and back child support payments in her calculations;
with a little luck, Julie could be a free woman a lot sooner.
College for her daughter
Julie is hell-bent on giving her daughter a college education.
"I am going to pay for it myself,"
she insists, "because I don't want my daughter to enter the
working world with massive amounts of debt."
It sounds like Julie is confusing herself with
Wonder Woman. The Diva reminds her that college without debt is
a family affair. Julie, her daughter and other interested parties
need to work together to make it happen. She can't do it alone,
but she can get things started. When special occasions roll around,
she can encourage family members and friends to give cash gifts,
earmarked for her daughter's college, instead of toys and accessories
that her daughter doesn't really need.
College is a privilege, not a right, and with
that privilege comes responsibility. Good students with leadership
and other special skills get scholarships and financial incentives;
her daughter's job is to do well in school, and hone whatever natural
talents she has. And as soon as she's old enough to work, a good
chunk of her earnings should be saved for college. Start talking
this up now, and putting half of the money from her first baby-sitting
job into the college fund will be as natural as breathing.
Julie should open a savings account to stash
the college cash; when it starts building up, she needs to look
at more attractive college savings options. For example:
- U. S. Series I bonds. $50 buys an
I bond, and the Bureau of the Public Debt lets you purchase
it online. There are tax breaks if the proceeds are used for
education, but in order to get them the bond has to be issued
in Julie's name; her daughter can be the beneficiary. For more
on buying savings bonds, read the Diva's "Five
common questions about savings bonds."
- State tuition plans. These state-sponsored
programs, also called 529 plans, are excellent ways to save
for college, especially since the 2001 Tax Relief Act has made
qualified withdrawals tax-exempt. The place to go for up-to-the
minute information on 529 plans is Joe Hurley's "Saving
for college" Web site.
- Education IRA. The IRA handle is
a misnomer. This is not an Individual Retirement Arrangement;
it's a college savings plan that also got a big boost from the
2001 Tax Relief Act. Starting in 2002, the allowed annual contribution
was raised from $500 to $2,000, and you can now make contributions
to an Education IRA and a 529 plan in the same year, for the same
person, without getting slapped with a penalty. Hurley also keeps
his finger on the pulse of Education IRA's; for more information,
read his "Internet
Guide to the Education IRA."
One thing Julie needs to consider is whether
to set up the initial college savings account in her name or as
a custodial
UGMA account for her daughter. The former will give Julie a
lot more flexibility in moving the money around. Also, when college's
review applications for aid, it's usually better for the child if
assets are in the parent's name.
Funding by Wonder Woman?
Julie needs to remember that many successful folks work
their way through college and earn impressive degrees without burdening
their parents or incurring massive debt. It isn't unusual for young
students to go to inexpensive community colleges, live at home and
work until they save up enough money to go to the colleges of their
choice.
Julie provides food, shelter, security, love,
discipline and after-school child care for her daughter. She's the
family breadwinner and works hard to keep the money coming in each
month. She also has a mountain of debt to pay off, needs therapy
and is thinking about going back to school.
The Diva thinks Julie has more than enough on
her plate right now and should put worrying about her daughter's
college on the back burner. She needs to take care of herself first.
By doing so she will be in a position to help her daughter with
college when the time comes.
Bringing in more money
To provide the lifestyle Julie wants for herself and her
daughter, she needs to bring in more money. The Diva is a proponent
of higher education as a means to higher earnings and a better life;
no one should leave life without it. Julie doesn't have a college
degree but her employer is willing to foot the bill if she goes
back to school. She's investigating this opportunity and is excited
about it, as well she should be. Julie was blessed with a sharp
mind and it's ready for expansion.
Commitment, hard work and her daughter's cooperation
will be needed for Julie to accomplish her goal. When she does,
she'll not only have a college degree and greater earnings potential,
she'll also have a daughter who is a lot wiser for having been a
part of it.
Wish list
The Diva asked Julie to write down what she wants, when
she wants it and how she plans to finance it. Here's what she wrote:
- What: Things for the house: carpeting, furniture
and entertainment center.
- When: 2003
- Financing: "I hope to have my credit
cards paid off before 2003," she dreams, "and I can
use my tax refund. I am also counting on a 'one-year-same-as-cash,'
and expect to pay it off before the interest comes due."
The "what" makes sense; the "when"
and "financing" do not: Here's why:
- Unless she brings in a lot more money, her
credit cards will not be paid off until 2004 or 2005.
- Her tax refunds are already spoken for.
They're needed for her nonnegotiable summer vacations and to pay
off debt.
- "One-year-same-as-cash" smells
a lot like "free financing" for a year. Keep playing
with fire, and she'll keep getting burned.
Julie needs to develop the habit of thinking
"save" instead of "charge" when she wants something.
It's that kind of thinking that keeps debt-free folks ahead of the
game.
Conclusion
Once Julie realized the serious, negative impact that shopping
had on her family's financial health, she dug in her heels and stopped
cold. She's determined to clean up the debt and regain her financial
and physical health. Instead of shopping, Julie goes to counseling,
volunteers at her daughter's school and sets aside time to manage
her money and investigate college opportunities. Those are the kinds
of actions that lead to success; the Diva thinks Julie is well on
her way to making her dreams come true.
Success is a journey, not a destination. The Diva
wishes Julie the best of luck on the road to financial freedom.
The Money Makeover is a weekly feature of Bankrate.com in which
money experts help readers untangle their finances. Do you need
to get your financial house in order? Could you benefit from the
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here.
-- Posted: Dec. 14, 2001
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