Financial Literacy - How to Prosper
savings
Couple wants to conquer credit card debt

In Bankrate's Money Makeover series, we commission qualified financial experts to examine the personal finances of willing readers. In this article, Senior Financial Analyst Greg McBride, CFA, talks to a couple from Virginia about their credit card conundrum.

Profile

Amy McMullen and her fiancé John Mocello of Virginia are self-described "income rich but cash poor" 20-somethings. With a walk down the aisle less than a year away, they are looking for some guidance on how to prosper financially. Amy, a government attorney and part-time athletics coach, and John, a police officer, have accumulated a lot of credit card debt. They want to move past what Amy refers to as "foolish ideas about wants versus needs" and begin progressing on the path to financial security.

Amy and John
Profile: Amy and John make good money but have accumulated significant credit card debt.
The challenge: The couple has several savings goals, including buying a home and saving for retirement.
The plan: With time and discipline, they can achieve their goals and prosper financially.

Challenge

Amy and John list their goals as getting out of debt, buying a house and saving for retirement. A more immediate goal is covering expected wedding and honeymoon expenses in fall 2010.

They're in the process of getting settled, and not just financially. John recently relocated, following Amy's move to southern Virginia last year.

Currently renters, Amy confesses to wanting to buy a house as soon as possible. But the primary obstacle is the mountain of credit card debt they've accumulated -- in the neighborhood of $20,000 each.

The debt picture

As is commonly the case, the issue isn't just previous overspending that generated the credit card debt, but current lifestyle. After an initial outlay of their monthly expenses, I pressed them further to quantify what they're spending in other common spending categories. They identified more than $900 in additional monthly expenditures.

They put a set amount in a joint account each payday to cover their joint household expenses, but with few exceptions pay their individual expenses and debts separately.

Both carry student loans with hefty payments, but are fortunate to have low, fixed interest rates.

Amy's car is paid for and while John has a car loan, neither has new-car fever and both anticipate keeping their present vehicles until the wheels fall off.

Despite striving to pay more than the minimum on their credit cards each month, the payments aren't much in excess of the minimum because of the large balances. They're also susceptible to interest rate increases that would push the monthly minimums higher. Case in point: The interest rate on one of Amy's credit cards is scheduled to increase next month, even though she makes payments on time, and will likely mean a jump of $50 or more in the minimum payment.

Amy has some department store credit cards on which she makes only modest purchases and always pays the balance in full.

Savings goals

Neither participates in their respective employer's 457 plans, but neither employer offers any matching contribution, so at least Amy and John aren't missing out on any free money. However, both will be eligible for pensions that are entirely funded by their employers, so the absence of any retirement savings isn't a major issue now. But they'll want to harness the power of compounding by starting to build retirement assets while they're young -- before houses, kids, day care and more bills enter the picture.

Amy and John have meager emergency savings, but enough to act as a small buffer for unplanned expenses. Along with spending and credit card debt, insufficient savings is another obstacle between them and their future goals.

Both have medical insurance, Amy through her employer and John through a short-term supplemental policy he picked up to cover him during an interim period following a recent change of employer. Beginning in February, John will be eligible for medical coverage through the police department he currently works for and can then ditch the short-term policy. John also pays a monthly premium for a modest whole life insurance policy, which has built up a cash value.

Key issues:
  • Significant credit card debt.
  • Need for wedding/honeymoon funds.
  • Monthly expenses bloated by discretionary spending.
  • Very little in emergency savings.
  • No retirement savings other than employer pensions.

Next: The plan

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