The Credit Card Crutch
When our youngest son was in college, he decided to stay on campus and work over the summer. We gave him an Amoco gas card for emergencies – not a Visa (V) or MasterCard (MA). At the end of the summer, he proudly announced he had saved $300, which he planned to use as personal spending money during the upcoming semester. I did notice, however, that the Amoco bills happened to be $300 to the penny. Apparently – like many college students – he thought an empty tank of gas on a Saturday night was an “emergency.” We promptly canceled the card and told him why.
I recently joined the Lending Club (with which Casey Research has an affiliate relationship) as an investor – an opportunity we covered in-depth in the June issue of Money Forever. In a nutshell, it’s a way for an investor to lend money to consumers. My wife, Jo, and I decided to invest a small portion of our nest egg with them. Personally, I limit my exposure to $25 per loan, and spread my investments over a large number of consumers. As part of the process, I review each applicant – including their credit history and credit score – and then decide if I want to lend them money. What an amazing learning experience the review process has been.
Do you know how to get a great credit score? Make a lot of money, borrow a lot of money, and pay it back on time. Investors can set their own lending criteria on the Lending Club website. I set my cutoff at a 700 credit score, which is pretty high. And yet, I see 50-100 new applications daily from folks who are bogged down with high-interest consumer debt, making minimum payments, and losing ground each month. They want to cut up their credit cards and use one Lending Club loan to consolidate their debt.
The number of folks with high credit scores who want a consolidation loan with payments in excess of 20% of their gross monthly income is simply amazing. However, I pass on lending to anyone whose payment would be over 10% of their monthly income.
These folks are happy to get a consolidation loan because they are reducing their overall monthly payments. A surprising number are actually thrilled to pay interest rates in the 10-15% range because they have been paying almost double that to credit card companies.
So why do I pass if their payments are over 10% of their monthly income? Hmm… A person makes a certain amount of money each month. From that money, he has to pay taxes, a mortgage or rent, perhaps a car payment, and maybe a student loan. In addition to those regular payments, he wants to borrow money with payments in excess of 20% of his gross income to consolidate debt. Oh yeah, he also has to eat, pay utility bills, live from day to day, and perhaps even raise a family. How is anyone supposed to do all of that and make another payment of 20% of their income? It can be done, but I’m not going to bet on it.