In 2009 my fiance and I had an income of approximately $60,000. We lived more than comfortably. Over the course of the next two years however, we had a sick baby whom I chose to stay home and care for, he lost his job, had to surrender one of our two new cars, defaulted on personal loans, credit cards, ran up utility bills and had to leave our apartment so that the landlord would not evict us and take us to court.
We accrued $30,000 in debt. My fiance bounced from unemployment (which we only received in lump sum payments after being eligible for 5 months at a time, thanks Rhode Island)
After I took over the finances, alone I reduced our debt to approximately $7,000 through settling for lesser amounts and paying off everything in chunks from tax refunds and the lump sum unemployment payments.
I still am staying at home with our son and my fiance has finally found a stable job that pays about $35,000/year. We do not qualify for government assistance.
Our current vehicle loan (one of the few good things on our credit reports) comes due in May with a balloon payment around $2,500-$3,000. However, we have about $7,000 left to pay off in old charge offs and then we qualify for a home loan!!
We can’t save the $600-$800 payments the creditors ask for to settle for a lesser amount. When our taxes come in next January we will be getting @ $4,000. Now that we are nearing the end of the long dark tunnel that was our debt history, how do we make the hard decisions of what to pay off when money is still very tight?
What is the right thing to do?
What you are asking is a chronic problem people struggle with. The reality is people often put themselves in a tough spot by repaying what they can’t afford in an effort to repair the past rather than fix the future.
But the situation is what it is at this point.
It appears you are over withholding on your taxes in hopes of getting a big refund check next year. You can adjust the withholding and that would put about another $400 a month in your pocket when you need it most.
When deciding where to delegate the money in tough times, people tend to make the wrong decision and they stop saving and building the emergency fund. It is precisely at times like this when you need that financial safety net the most?
The ballon payment on the car is interesting. Since it is not a lease is it from the lender sticking late or missed payments onto the end of the loan?
But at this point it looks like you’ll have to stop settling debts, adjust your withholding and save up the money to deal with the car situation.
What is the right thing to do? Wow, that’s a loaded question. All I can tell you what is the right thing to do from my point of view and decades of experience in helping others.
When you face tough times financially there are a lot of factors that go into determining what makes the most logical and mathematical sense to do. And then there is the emotion people throw in.
If you don’t have a retirement nest egg built the right thing logically and mathematically to do for the future is to declare bankruptcy and get back to saving as quickly as possible. The earlier you save the larger your retirement funds will be and with some doubt as to the support Social Security will give you when you get old, you have to take care of yourself first. Time is the enemy, not your credit or creditors.
If you want to see the math, use the calculator below to see how repaying your debt in an extended repayment approach robs your retirement.
Debt Repayment Calculator
This calculator demonstrates the future retirement financial loss you may experience when electing to repay your debt with an extended repayment program offered by creditors, credit counseling or debt settlement, rather than intervene on your debt with solutions like bankruptcy which terminate the debt quickly and allow you to resume saving again for retirement.
The calculator solves two problems.
Cost of Payment Plan in Retirement Dollars: This is the value of the retirement funds that you could have invested rather than repay your debt through an extended repayment program.
Future Lost Retirement Value: This is the amount you will lose in retirement from entering into a repayment plan to deal with your debt.
If you want to just see the amount lost from the payment plan, leave the “Monthly Payment After Payment Plan” box at 0.
Here is an example:
Current Age: 25
Monthly Payment: 300
Monthly Payment After Payment Plan: 0
Length of Payment Plan: 5
Rate of Return: 10
Estimated Retirement Age: 70
Cost of Payment Plan in Retirement Dollars = $23,231.12
Retirement Cost of Payment Plan = $1,247,526.55
What This All Means
If you elected to pursue some other solution, like bankruptcy, to discharge your debt quickly, you would not make monthly payments into an extended repayment plan. Those funds could instead be used to save towards retirement.
In this example, if our 25 year old debtor decided to enter into a credit counseling or debt settlement program they would repay their debt but that plan would cost them $23,231.12 in retirement funds that would be worth $1,247,526.55 when they eventually retired.
The purpose of this calculator is to not talk you out of credit counseling or debt settlement but to assist you to make a more informed decision about the future costs to you.
Current Age: Enter your current age.
Monthly Payment: Enter monthly payment of debt plan.
Monthly Payment After Payment Plan: Enter any payment you expect to make on a monthly basis into your retirement plan after you get out of debt. Leave this as 0 if you just want to see the future cost of lost retirement from a repayment plan.
Length of Payment Plan: Enter the number of years the repayment plan will take.
Rate of Return: Enter the rate of return you anticipate your retirement plan to have. Keep in mind that a good stock index mutual fund can return 10% or more.
Estimated Retirement Age Age: The age you anticipate retiring at.
And if you don’t think worrying about saving for retirement is important, please read The Saddest Avoidable Mistake People Make When Getting Out of Debt.
Why This is Important
Government data shows 41 percent of Americans aged 55-64 have no retirement savings account.
For those in this age group who do have a retirement account, the median account balance is only $103,200. In addition, an increasing number of Americans are retiring without pensions.
The Employee Benefit Research Institute (EBRI) finds that 44 percent of baby boomers will fall short of adequate retirement income for basic expenses and uninsured health care costs.
Women, in particular, have an increased likelihood of outliving assets due to, among other things, lower savings and lower private pension coverage. – Source
You don’t want to wind up broke in retirement.
The Question You Always Need to Ask Yourself
If you ever find yourself in a tough financial spot again, you need to ask yourself the following question. “Do I have a greater responsibility to fix my financial past, or fix my financial future?”
Please post your responses and follow-up messages to me on this in the comments section below.