Business Week (via Yahoo!) reported today on the government’s rebate program for new energy-efficient appliances. Similar to the “Cash for Clunkers,” the program will give rebates of $50 to $200 on new appliances. It was unclear to me what types of appliances will be covered, but it sounds like at least refrigerators and washing machines will be covered. There was no real specific information about the program since individual states will be determining the exact parameters.

I’ve been trying to get my head around these government programs and the affect they’ll have. I honestly hate the idea of the government encouraging and funding consumer purchases. What’s wrong with people making due with what they have? I assume that a large portion of the people participating in these programs will make their new car and dish washer purchases using debt, thus further increasing overall consumer debt. The article listed above mentions how the appliance market has suffered because people have been choosing to fix their appliances rather than buy new. GREAT! That’s responsible behavior. It’s not a problem to be solved by the government. If industries such as appliance and car makers are suffering, they need to adapt their approach, re-tool their businesses, and look for ways to innovate. They shouldn’t rely on the government to bail them out. The whole thing frankly gets me riled up.

Now I’m no economist and can’t eloquently argue the virtues and vices of Keynesian government spending programs. Maybe they’ll have an overall positive impact. But my gut tells me they are wrong simply because they encourage lazy behavior. They don’t encourage personal accountability which is what got us into this economic mess in the first place. Citizens will eventually have to pay for these government programs in the form of increased taxes, which will be harder to pay with their added debt from appliances and cars.

I guess we’ll find out soon what the details are of this newest program so stay tuned. If you are in the market for a new appliance, by all means try and take advantage of this program. If you’re not, be happy with what you have and please don’t go into debt just to take advantage of a measly little discount.

Am I way off on this? Please leave a comment and let me know what you think. I actually would love to hear some good reasoning as to why the program is a good thing so I can at least feel a little good about it. Will energy-efficient appliances really save the environment that much? Will this really help the economy turn around?

In this final installment of the Financial Peace University summary, I’ll cover credit collection practices and will briefly address the spiritual side of managing your finances. This series of summaries about FPU has taken much longer to complete than I originally anticipated. The information was so good I couldn’t pack it into just a couple of posts. I’m glad we’re ending with lucky post #7.

Credit collection practices

In week 12 of Financial Peace Universtiy, Dave Ramsey addresses credit collection practices and how to create a plan to deal with creditors. This is not an area I’m familiar with so I can’t add much of my own opinion. Hopefully those of you dealing with creditors will find this information useful. If you’ve had experience dealing with creditors, please post your experience and any advice in the comments.

It’s better not to go into bankruptcy, but rather to create a plan.

Dave’s first piece of advice is that you’re better off dealing with creditors than going into bankruptcy. If you have a clear plan and communicate that to your creditors, you can make it through the experience.

Collectors are not professionals. Don’t let them manipulate you into thinking they are.

Dave mentions that the average turnover for a collections agent is 90 days. It’s literally a revolving door. This helps you put things in perspective about who you’re talking to. It’s not an intimidating professional in a suit and tie, but more likely some tween in a tee shirt and jeans who won’t even be around next month.

A collector agent’s first rule is to evoke emotion (fear, anger).

Collection agents use scare tactics to manipulate you by evoking anger and fear. If they can get you to react strongly, you’re more likely to take action. Beware – This will lead you to make non-logical decisions that won’t be in your best interest. For example, in the heat of the moment, you may reason “I’ll pay this off to show you and get you off my back.”

Take care of the “four walls” before paying creditors.

Take care of your necessities before paying creditors. Dave defines necessities as the “four walls” – food, shelter, clothing, and transportation. In a previous session Dave tells a story about when he had creditors coming after him. He and his wife ordered their budget according to needs and drew a line on the paper after the “four walls.” When the creditor called, Dave told them “I’m sorry, you’re below the line.” The creditor asked “well how do I get above the line?” Dave replied “You be nice next time you call.”

Creditors have rules dictating how they can act. Don’t let them break those rules.

In 1977 the government passed the Federal Fair Debt Collection Practices Act dictating how collectors can behave.

Here are some things to look for:

• Creditors can only call between 8 AM and 9 PM.
• You can send a certified letter to your creditor with a return receipt stating they are not allowed to call you at work. If they do so, they will then be violating federal law.
• They can’t use gestapo tactics. Dave tells a story about a collection agent who sat in the debtor’s driveway and threatened him when we got home. If the collection agency is using such tactics you can send a cease and desist order. But be warned, doing so could trigger a lawsuit.
• No collector can confescate your bank account without suing you. If they say they can, they are lying. However, they can do this with student loans because there is such a high default rate.

Create a plan for paying your bills.

The main way to deal with collection agencies is to create a plan and communicate it to the agencies.

If you can’t pay all your bills:

1. Take care of your needs first
2. Create a Pro-rata plan in which you pay your creditors as a percentage of how much debt you have with that company. For example, if you owe one creditor 25% of your total debt and another 75% of your total debt and you have $100 a month to pay down debt, you would send the first creditor $25 and the second $75.
3. Send a cover letter with copy of your budget every month along with your payment.

Communication is key in dealing with creditors. If they see you’re making progress and have a clear plan, they’ll be much more confident that they’ll get paid and will be less likely to pester you.

The number one catalyst of filing bankruptcy is pressure from collection agencies. If you communicate excessively they probably won’t sue (although they could). A proactive approach is the best.

Settling debt for less than the full amount.

If you don’t have enough to pay a debt you can ask for “settlement in full.” This means you offer to pay less than the full amount you owe immediately if they will consider the debt paid. If they agree, make sure you have a written agreement. This is a less desirable approach since you should ideally pay whole debt (you do owe it). It also will show as a gray mark on your credit report (which is better than showing as a black mark). Also, if you receive a settlement in full, the amount of the debt you don’t pay off is taxable income.

Managing your credit report.

Here are some useful tidbits to help you manage your credit reports.

• Financial accounts are taken off your credit report every 7 years from last report. Bad debts stay on your credit report because they continue to be reported. The sooner you pay them off the sooner they will be removed.
• Keep track of your credit report. 50% of people have errors on their credit report. 37% have major errors that can make it hard to get a job or loan. Check your credit report once a year. You are entitled by law to one free credit report a year from each of the three major credit reporting companies: Experian, Equifax, and TransUnion. Get your free credit reports at AnnualCreditReport.com.
• The credit bureau is required to remove inaccuracies within 30 days of you reporting it unless they prove the inaccuracy is correct. If they don’t remove the inaccuracy you can have them take off the entire file (Dave wasn’t clear on this point but it sounded like you could actually have the entire financial account removed from the record).
• You can contact the credit bureaus to prevent you from receiving pre-screened marketing offers from financial institutions. You can call each company and follow up with certified mail to each of 3 credit bureaus. If you request a block by phone it lasts for two years. If you request a block in writing, it lasts forever.

The spiritual side of managing your finances.

Dave wraps up Financial Peace University in week 13 by talking about the spiritual aspects of managing money.
I know many people give Dave a lot of flack for talking about spiritual matters, but it’s hard to deny the impact of having a charitable mindset. I personally have had many positive experiences giving funds for charitable causes and have seen miraculous results. If nothing else, the idea of sharing your wealth is healthy from a psychological perspective.

Dave points out that we shouldn’t just try to gain more money for the purpose of holding on to it. Money is just a small piece of life and isn’t the source of happiness. By using money to help others, we can keep money in its proper place and maintain a healthy attitude towards material gain.

Giving money to worthy causes helps our relationships and increases our wealth.

Dave advocates giving a portion of your income to charitable causes. This helps you release your tight hold on money and helps it flow to those who need it most, including to yourself in times of need.

We are happiest and most fulfilled when giving and serving. Giving is:

1. A reminder that the lord owns all. We are just stewards.
2. Praise and worship. We show our attitude towards God when we share our money with others. It’s a form of praise.
3. Spiritual warfare. Giving freely of your wealth can spiritually protects you against both spiritual and temporal harm.

Dave offers the following guidelines for sharing your wealth.

1. Give 10% of your income
2. Give off top. Budget your charitable giving first. Don’t wait until you’ve budgeted all your categories or you won’t have anything left.
3. Give offerings in addition to tithes. When possible give above and beyond the 10% tithing.
4. Never give with the motive of receiving in return. If you give with the wrong motive, you won’t receive the corresponding blessings
5. Financial peace is about understanding. By putting money in the proper place and perspective, you can obtain financial peace. It’s not about how much money you make or how much “stuff” you have.

If you have children, saving for their college education is probably among your financial goals. Today, the average tuition at a private college is over $22,000. Refinance the house? Dip into retirement? Not according to Anne Marie Chaker at the Wall Street Journal Online. Her article Seven Myths About College Finances debunks several assumptions people are likely to make if they don’t look deeper into college financial aid.

Myth 1: Financial aid means grants and scholarships. Truth: Financial aid includes scholarships and grants (don’t have to be paid back) as well as federal loans. Loans can be subsidized and unsubsidized, but either way there is a cap on the interest rate–saving big bucks over the long term. Some jobs after college offer loan-forgiveness programs.

Myth 2: My assets (home and retirement savings) will prevent me from getting a need-based loan. Truth: The home you live in and retirement plans are not included when determining how much aid you can get under federal rules. Private colleges may use a separate formula, but do not include retirement savings.

Myth3: I should go with the lender preferred by my college financial aid office. Truth: Shop around and read the “fine print.” What looks like a good deal upfront might include an origination fee, or heavy penalties for missing a payment.

Myth 4: I’m doomed if I have two kids in college at the same time. Truth: You are likely to qualify for more aid.

Myth 5: The federal aid process follows a strict formula and my situation will never be given special consideration. Truth: College aid officers have the authority to make adjustments on a case by case basis. Documentaiton will be required.

Myth 6: Our child is likely to receive many private scholarships. Truth: Nearly all financial aid officers agree that parents overestimate the amount of scholarship and grant money children will receive.

Myth 7: The 529 college savings plan is bound to be the best for me. Truth: Shop around–be sure to look at fees.

If you are researching college financial aid, be sure to check out this post by Anna Leider.

After reading these articles, my biggest question is: Have parents always footed the bill for college? It never occurred to me to ask my roommates how they were financing their education; I only know that at least half of them worked. My parents paid my first year of room and board, but after that I was on my own. Just the idea that they would have used their retirement or refinanced their home to pay for my education seems crazy to me.

Has a college education become an entitlement? Even at the expense of the parent’s financial future? We live in a land of opportunity, and some believe that our country stays strong because life isn’t handed to us on a plate. We believe in hard work, and the self-made man. By giving our children everything, do we rob them of the chance to struggle, work hard, and fulfill their potential?

The question of how much of a mortgage you can afford is a tricky question. Make the wrong decision and you will constantly be strapped for the financial resources you need. The fact is, housing is the largest single expense for most people (other than taxes). The size of your mortgage can literally make the difference between financial happiness and financial misery. The term “house poor” means that you have such a high mortgage payment, you can hardly afford your living expenses let alone anything purely for your lifestyle or enjoyment. I prefer to be “house rich” by buying a house that is well below what the bank is willing to loan you. By buying a less expensive house and lowering your monthly payment by up to a few hundred dollars, you can have more than enough money for vacations, grown-up toys or any of the things you value. Rather than struggling to simply buy furniture for your home (without going into debt), you could fully furnish your home pretty quickly and make it suit your taste perfectly.

We learned this lesson of being “house poor” the hard way. Our home is on the high end of what we really should have purchased. While we can afford the payment and our living expenses with funds to spare, we don’t have much wiggle room. When we had some significant medical expenses a couple years back we were almost forced to move. We still haven’t furnished our home to our taste (partially because of a lack of motivation and partially due to finances). When expenses are normal there’s no problem, but at the first sign of an emergency we really have to plan to make it through. Budgeting and small raises over time have alleviated our tight financial situation quite a bit but I still would have chosen a less expensive house if I started over again. In fact, we’ve considered moving several times and may yet decide to do so.

How to calculate how much mortgage can you afford?

Banks will tell you that you can afford up to 41% of your gross income as debt (sometimes referred to as the front-end ratio) — If you earn $3,000 a month, you can afford to have $1,230 in debt. But trusting this advice is a big mistake. First of all, banks are self-interested. Taking on debt that’s 41% of your income is what the bank feels comfortable lending you, not what you really can afford. Borrowing the full amount that the bank is willing to lend is a sure way to get in over your head. Your situation can be even worse if you make regular charitable contributions. Many people donate 10% of their income as tithing or for charitable causes. This 10% is part of your fixed expense structure and really should be considered more like a debt payment when calculating your total debt load. This also applies to expenses like child support or alimony.

Here’s another, more accurate way of calculating how much house you can afford. Consider it the “altered” front-end ratio.

1. Calculate the monthly payment for the loan amount you’re considering.
2. Calculate all your expected home expenses including property taxes, insurance, and utilities. If you’re not sure how much they will be, your realtor might now. Even better, ask someone you know living in a comparable house how much their total housing expenses are.
3. Calculate the total monthly debt payments you already make.
4. Calculate any fixed charitable contributions you consistently make.
5. Calculate any other payments that are required every month such as child support or alimony.
6. Add all the amounts together and divide the total by your gross income (income before taxes). If the result is less than 41% (.41) you can probably afford the house without being too “house poor.”

Don’t believe what home mortgage lenders tell you that you can afford

Our original mortgage payment (we’ve since paid our mortgage down about $20,000) as a percentage of our gross income is only 24%. By the bank’s definition we could have afforded almost twice the house and mortgage, yet we still felt house poor. When adding in housing expenses and charitable donations this ratio jumps to 37%. Still within 41% recommended above but much closer to the threshold.

If you define 41% as being “right on the edge of what you can comfortably afford”, 37% seems to accurately reflect how I feel about our financial situation – we can afford our house and have a decent amount of disposable income assuming we don’t have significant unexpected expenses. Even with unexpected expenses we can get through since we have total control over our budget. We can even occasionally deal with these emergencies without dipping into our emergency fund. But without total control over our budget, we probably would end up going into consumer debt to go on vacations or pay for emergencies.

What if my ratio is over 41%?

If your altered front-end ratio is only a few percentage points above 41%, you may be ok as long as you get your budget under tight control. That means you know exactly what is coming in and how every dollar of income will be spent before you spend it. You still may want to consider moving or making a dramatic housing change (like we’ve considered doing).

If you are more than 4 or 5 percentage points about 41% you should probably make a dramatic lifestyle change. Typically that means moving to a less expensive home since that is the easiest expense to decrease significantly. You can only squeeze so much out of your grocery budget. Also keep in mind that a cheaper house typically means lower taxes and utilities.

Don’t believe what mortgage calculators tell you that you can afford

Some people might think I’m crazy suggesting this alternative way to determine how much you can afford. I went online and used some mortgage calculators to see how much they said I can afford and their conservative estimates were $500 more than our actual mortgage payment. That’s ridiculous! If people are to ever get out of the debt death spiral, they have to set themselves up to win and one of the main ways to do so is to make sure you can afford your housing.

I would love to hear from GFD readers how they have determined how much house they could afford. Go ahead and calculate your altered ratio and share it with us. Help us calibrate the scale – does 41% seem to be the right threshold according to your experience? Please leave your comments below.