I know this is going to sound like crazy talk but keep reading.
Now is not the time to pay more than the minimum payment on your credit card if you don’t have a lot of money in savings.
If you thought the foreclosure crisis was bad, just watch what is going to happen to credit cards. With twenty thousand Americans a day losing their jobs, you need to prepare for the worst. Remember after 9-11 when people bought bottled water, plastic sheeting and duct tape to protect themselves, well now is the time to start stashing cash to protect you from the financial storm we are in.
Already we have seen dramatic examples of creditors running for cover by slashing available credit limits and jacking interest rates up to the max, even for people with good credit.
Historically people have found comfort in their credit card available credit. They felt that in case of an emergency that the card would save them and in that belief people have failed to save sufficient cash on hand to protect them if the card was no longer available.
The economic tsunami that we are living through is causing more people to turn to living on their credit cards when they are faced with unprepared economic hardship. This is going to result in higher losses for banks and in response they are going a dramatic shutdown of credit limits or the card.
People forget that having a credit card is a privilege, not a right. The card is yours to use at the whim and discretion of the issuing institution.
What is probably going to accelerate this demise of the credit card is new legislation that is coming into effect next year that prohibits credit card companies from jacking your rates way up like they are now. It is a good piece of legislation that is intended to protect consumers, and it will, in the future. But next year, left with the option of keeping you at your current rate or closing your card, banks will opt to close cards or close down your credit limit because they see more customers at risk.
The card closures and credit limit reductions will hurt your credit score. More creditors will take notice of your lower credit score and close your card or reduce your credit limit. This is a bad news situation that will feed on itself.
So, just imagine right now, if you had not access to any of the credit currently extended to you on your cards, how much cash would you need to have access to right now? Do you have it on hand?
Most experts today say you need to have six to nine months, most people don’t. I think at the very least you should have at least three months of cash in a boring old savings account that you can get to within 48 hours if you had to.
Now, does this approach make mathematical sense? Absolutely not. The least expensive way to get out of debt is to pay down high interest rate debt first, but if you are doing that at the exclusion of saving you need to understand that the cost you will pay for not having emergency cash available, might be the loss of your home or the inability to eat.
So where are you going to get this cash to save? Well a recommendation in the Wall Street Journal suggested:
But people without enough on hand right now may find it makes sense to borrow from their credit cards and put that money in a bank account. Sure they will pay a negative spread, borrowing at 12% and earning 1%. But they may figure that is the price of being prepared.
I don’t think I’d go that far but at the very least, only pay the minimum payments on your credit cards right now and not a dime more. Use the extra cash you would have sent above the minimum payment to put in your savings account.
There is a value in the comfort of knowing you’ve got cash on hand to protect you if your credit cards were either no longer able to used or maxed out because your credit limits had been reduced to your current balance.
Saving cash in a savings account like that offered by ING will give you a higher return than your local bank and at least let you make some interest on your savings account.
I’m not screaming that the sky is falling. I just think you need to be reasonably and prudently prepared if a financial nuclear winter is coming, and it might be getting a whole lot worse.
Steve