Monthly Debt vs. Overall Debt (LONG)

rivkadrAugust 24, 2006

Let me tell you a story: I have a friend, who we'll call Theresa. Theresa has $60,000+ in student loans. She has a personal debt for medical bills of several thousand dollars that went to a collection agency, that she is paying off through a debt reduction program. She's also only been out of college for a year and a half, and held two relatively low-paying jobs ($40k, which is enough to just get by in Los Angeles) during that time frame. She's barely able to keep her head above water every month, and because rent is due at the beginning of the month, and she gets paid twice a month, she has a week or so every month where she's eating Ramen noodles because she can't/won't budget wisely. And she just got laid off from her job.

She announces brightly to me yesterday that once she has a new job, that she's going to get herself a new car. Now, keep in mind, she has a relatively new car that is not even 2 years old, that is running perfectly fine. It was a low-budget car (about $12k), but she had to get a 6 year loan to keep the monthly payments reasonable.

My response to her was: "That's just about the dumbest thing I've ever heard."

Not the most tactful response, I know, but it's getting to be a bit much to listen to her whine about how she doesn't have any money, and yet she continues to make poor financial choices. Example: she didn't register her car when she moved to this state a year and a half ago. The DMV finally caught up with her and slapped her with $500 in fines -- her response: "I didn't know I had to register the car, it's not my fault." This is fairly typical with Theresa.

Her excuse for buying the new car was that she doesn't "like" her current one. I explained to her that the trade-in value on her current car would be relatively low (she was in an accident, and the side is crushed in), and that she'd probably have to take another 6 year loan for this new car. She'd be adding 2 years more to her overall debt, for what seems to be me, to be no good reason.

She doesn't feel like that's a big deal. "My monthly payments will stay the same, and that's all I care about. I can't think longterm."

Am I crazy for thinking that's incredibly shortsighted? Do people go through life focusing only on monthly debt, rather than overall?

I know when my husband and I were car shopping earlier this year, the salesmen kept trying to sell us more expensive stuff, by saying "But I can get your payment at only $200 on a 6 year loan!" Um, no. You could get just about anything you wanted if you spread the loan payment over a long enough period -- it doesn't mean it's a good idea, IMO.

I think that monthly debt is obviously something to keep in mind when purchasing large items, but it still seems to me that people need to keep in mind the overall debt, and stay within your means. I see so many people my age (mid 20s to 30s) just racking up debt, and they think it's fine, because their monthly payments are reasonable. Never mind that they'll be paying for whatever it is for years. Shouldn't the goal be to get OUT of debt?

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You are definitely coming from the right place, with the right ideas.

But that's not how majority of people work it nowadays.

Which is why so many people are in so much trouble!

    Bookmark   August 24, 2006 at 6:42PM
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Chemocurl zn5b/6a Indiana

I really don't know how someone can be intelligent, yet so dumb when it comes to finances and being financially responsible and secure.

I'd think one goal would be not ever have to live on Ramen noodles...

She will end up owing more on that new car than what it is worth. Maybe she won't be able to get a loan for it, considering the debt she is carrying, and will be at a 'new' job. Going thru 2 jobs in 1 1/2 years is also not a good thing to have on one's record. She sounds very unstable, and I sure wouldn't want to risk lending her money for something that will just depreciate as soon as she drives it off the lot.

I know you would like to help her, but it doesn't sound as if she is ready to listen to sound advice.

Possibly on down the road, you can occasionally offer her a good meal when she is really needing one.


    Bookmark   August 24, 2006 at 10:01PM
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Well, I'm with you. Can't stand owing anyone money. Owing 6 years on a car would mean I'd be going 6 years without sleeping! Granted, I did just buy a $36,000 car in May, and took out a 6 year loan on it. BUT, we put down a large downpayment and we've been paying ahead on the loan since, so it's down to a couple of thousand $$$$. It will be paid off before Christmas.

Don't people realize that when they finance stuff for years, they end up paying maybe 2-3 times the sticker price for the item, once you add in the interest? To me, I'd rather NOT pay that kind of premium for the items I buy.

But, like anything else, you cannot change someone who doesn't want to be changed. All you can do for your friend is sit back and give her the freedom to live her life as she chooses. But keep a lock on your wallet--sooner or later she's going to be coming to you for a loan.

    Bookmark   August 25, 2006 at 7:53AM
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"Don't people realize that when they finance stuff for years, they end up paying maybe 2-3 times the sticker price for the item, once you add in the interest?"

Not necessarily!

People might think I'm crazy because I financed my new Mountaineer.

But they don't know that I had the cash to pay it in full - but didn't. Mercury offered me 0% down and 0% interest for 4 years. Of course I took that and invested the cash.

    Bookmark   August 25, 2006 at 8:20AM
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Do people go through life focusing only on monthly debt, rather than overall?

Many of them do. It's what explains the logic of leasing cars and of no-interest home mortgages, because, for most people, these are financial disasters waiting to happen. Unfortunately, Theresa, like many people, grew up in an environment in which having "stuff" was more important than financial security. "Stuff" also provides a measure of emotional security: "Look at me. I'm successful. I drive a brand-new car." You just don't see those folks "paddling like mad underneath".

Someday Theresa will encounter a financial situation that she simply cannot handle and she will hit rock-bottom. Until then, she's going to have fun and follow her muse. Hey, if it's good enough for the federal government, it ought to be good enough for her, right?

    Bookmark   August 25, 2006 at 8:39AM
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I find stories like these particularly distressing. I work with two people who manage (?) their finances similarly to Theresa. I like both of them very much and it pains me to watch them struggle so needlessly. It is hard for me not to react when they tell me I "don't understand how it is because...". I DO, but I was well past the "broke" phase by my early 20s... I didn't like how it felt and I made changes.

The above story begs the question, "Why do they repeatedly place themselves behind the 8 ball?".

My own belief is that it comes down to two things:
1.) They lack the basic building blocks of sound financial management. Quite literally, they don't know HOW to set a budget that is realistic (allows for FUN). They don't know HOW to balance a checkbook. They don't understand the concept of compounding interest; how it can hurt them over time OR, how it can work to their advantage over time. It is this lack of understanding that mires so many in the "I can make the payment" mindset.

2.) They use money and spending as a way to make themselves feel better when things are tough. Many people equate money with "power" and self-worth, sadly. The most tragic aspect of this mindset, though, is that inevitably the "chickens come home to roost" and resultant accumulation of debt only destroys any remaining self-worth in bankruptcy court.

I know many people who are high earners, but lack real financial acumen. And I know many wage earners who have learned the basics and have always focused on the LONG term. One, in particular, stands out. She is a 40- something single mother. She OWNS her home and a rental property. She is a waitress. I'd be willing to bet her net worth outstrips the "high rollers" who regularly appear in her station on Friday and Saturday night. She's smart and she works hard. Her kid is just as bright and motivated.

OJ said it best, I think. Money makes a wonderful slave, but a terrible master. (I like that one!).

    Bookmark   August 26, 2006 at 8:02AM
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What did she "pay" ... well, "agree to pay" for her new car when she bought it two years ago?

And how much has she paid over all of those months between then and now?

And how much does she still owe?

If she goes to buy a new one, how much will the dealer allow her as trade-in on her current car (with the less-than-attractive side) as reduction in price of the new one?

She'll be astonished at the amount that the dealer will allow her as trade-in on her car with the caved-in side when she goes to buy her new car.

I'll bet that it'll be less than she still owes, probably quite a bit less.

So that, if the new car's price may be, say, $18,000. ...

... she may end up owing something like $22,000. on her new loan.

On the new car that she paid $18,000. for ...

... but now, even if only a week after she bought it, and without a mark on it, would be worth probably about $14,000.

Two thirds of what she owes?

Not my idea of a good time!

Would she listen if you drew a set of patterns for her, showing (with approximate sizes relative to dollar amounts), of what she paid for her current car, how much she's paid over the 24 months, how much she still owes, how much difference there is between her cost, what she's paid, what it's "worth" now as allowance toward an upgrade, etc.

And showing how she's paying so much monthly on her student loan, so much monthly on her car loan, splitting those two payments into principal repayment and interest components, running the interest stream off the edge of the paper, as lost.

So - she's working about half of her time monthly for ...

... nothing.

But - currently, she's not working, is she? So how does she make car payments? How long before they may repossess it ...

... leaving her walking.

Which wouldn't happen if the loan was all liquidated.

Working much of her time - to pay someone else rent for the use of their money.

And as long as she uses other folks' money ... she'll have to pay rent on it.

Which is money that could have stayed in her pocket, had she driven the nearly new car (with the stove-in side) longer ...

... until she's paid off all of the money that she'd borrowed to buy it.

Which would mean that the amount that she would be allowed at trade-in would be all hers, instead of mostly (or all - or maybe even more than all) going to pay off the loan that she still owes on the current car.

Which would mean that the amount that she would have to borrow on the new car would be much lower.

So - if she were paying the same amount per month ... the loan would be paid off in short order.

Then she could keep putting that amount away (or most of it) to pay off her student loan faster.

Could you draw comparable sized boxes to the amount of value that each item is, with labels, and the proportion of it that's hers, etc.?

When we get stuck in a snow bank, we can do a lot of spinning wheels back and forth, with little result.

Except burning a lot of gas. Wear and tear on tires.

Wasting time.

And, if we're not careful, when using an automatic transmission, burning up the transmission.

And getting where?


And getting not just ourselves, but people sitting in the car with us, more than likely, somewhat bent out of shape with irritability.

Smells a lot like this situation, doesn't it?

Just some thoughts. Or ... would you call it my whine?

ole joyful

    Bookmark   August 26, 2006 at 3:14PM
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To tell the truth, it was in professional school, post bachelor's degree, that I finally had a course in personal finance. It's not taught in grade school or high school. I could have taken it in undergrad, but I needed to take all the social studies and history and other stuff that's supposed to make me such a wonderfully well-rounded educated person, so I didn't have time to add a course in practicality. In high school, everyone is teaching for the end of year tests, which do not include things like finance.
Honestly, there are a lot of things wrong with education in the USA, but I feel that lack of basic financial skills is a huge problem. We do a lot of memorization so we can fill out the bubbles correctly at the end of the year, but we don't get a lot of skills. How many high school kids can barely read? Even fewer can read critically and think logically. And fewer still know even what a budget is and how to design and use it. My parents never taught me how to do a budget either, even though my dad was an accountant. I learned the hard way and went bankrupt by age 24. Doing much better now, thanks, and will never put myself into that situation again. But that's a heck of a way to learn a lesson. Theresa is probably just like me. DH and I had literally about $6000 in assets (including 2 used cars) when we declared bankruptcy when over $30,000 in debt (combined). So I totally understand where she's coming from. I also totally know where she's going. She'll learn, hopefully.

    Bookmark   August 26, 2006 at 6:18PM
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"It's not taught in grade school or high school."
It is in our public high school, but DH and I also taught our 2 kids about personal finances.
It was the responsible thing to do....

    Bookmark   August 26, 2006 at 7:44PM
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I absolutely agree with Meghane. Our educational system is about teaching facts and not SKILLS. That's the reason kids can't read, write, or do basic arithmetic. They haven't been taught the SKILLS required. I know the teachers (sorry, "educators") will likely chime in; but the simple fact remains kids aren't being taught that which they must have to get ahead. "No child left behind" is a joke and a waste of money. (my opinion)

I was 18 and had NO clue about the simple arithmetic involved in balancing a checkbook. It wasn't part of my HS curriculum, nor did my parents think it was important enough to sit me down and teach me. MY parents regarded financial "speak" right up there with the "sex talk", lol. I knew it, and did the research required for the latter knowing its importance LONG term. But the basics of financial management? I had no clue; but I did have a sterling example courtesy of my parents (they were all about saving, minimizing expenses, and using the "system" to their advantage). And whenever I was confused, unsure they had nuggets of wisdom to dispense. But it would have been lots easier if they'd begun the process when I was about 13!

I believe we must begin imparting our youth with the building blocks of financial acumen EARLY. Money savvy must begin in elementary school and it must be introduced, step by step in conjunction with arithemtic and mathmatics, ALL the way through secondary school. Linked to History, Civics, "Social studies" it will imbue youngsters with a solid foundation that will allow them to flourish.

Knowing about "money" is crucial to future success!

    Bookmark   August 26, 2006 at 8:24PM
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Your friend won't likely change her ways until her circumstances become so painful that she will see the light, or she dies in huge debt.
Some folks just get used to debt and debt is not worth putting off feeling good, which I'm sure lasts as long as it takes to get the first door ding.
While I agree that Financial Planning should be taught in schools, if she made it through college, she can do the math on this. She just does not want to.
Every time she tells you she's eating ramen this week, ask her how the new car is...
Ok, that is mean, but as you say, she continues to make poor financial decisions. I don't think you can change her and she were my friend, I'd have a very low tolerance for hearing complaints about her circumstances in the future.
TBS, it does not mean we have to agree (or even know) about our friends' money management abilities. I just urge you to talk about something else with her - as this will drive you nuts!

    Bookmark   August 28, 2006 at 3:51PM
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The fact that your test scores "prove" you have the arithmetic skills to balance a checkbook or do any of the basic tasks requisite for basic financial management DOESN'T mean you you know how to actually put them to use.

This is what I meant when I said our schools teach FACTS and not SKILLS. There is a gulf of difference between the two. You can put a drill, a set of screwdrivers, and a wonderful assortment of measuring equipment in front of several people. Will they know and understand how they are to be used? Some will, others will need to be shown.

    Bookmark   August 28, 2006 at 4:10PM
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That's what i was trying to say too Chelone. I always got As in math, right up through Calc 2, but never learned to make a budget for both long and short term financial goals. I figured out the interest in credit cards when every month our debt went up and not down after paying the minimum due. Yeah, our finance charges were higher than our minimum due, and we struggled to pay even that. My parents probably weren't the ones to be teaching that to me anyway. It wasn't until my mom was in her 40s that she started saving for retirement (excellent plan through SSA though- she'll be fine). I doubt my dad has a penny to his name, but that's more a function of his alcoholism than his lack of prowness with finances. The point being that at the time that I needed to know about these things, my mom was clueless and my dad was drunk. So it was up to the school system which also failed me. I can integrate and differentiate like a champ though, for whatever good that does me. BTW, I went to catholic school through HS so I'd have a better education.
I hope that more schools do get financial education as part of the cirriculum, preferably in junior high or high school, before kids start dropping out.

    Bookmark   August 28, 2006 at 6:00PM
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