After making such great progress in May, we took a break from debt reduction in June. We were hoping to get one more debt paid off, but it was not to be. That said, we will be able to pay off one more debt in July and will get back on track. My husband also added up all the debts included my goal and discovered it’s a hare over $35,000, not the $40,000 I added up. That means we’re 54% towards our goal.

Debt Reduction Progress in June
We have about $750 left on one debt that we’d hoped to pay if off this month, but instead we stuck with the standard $150 payment. We did make an important discovery, though. The interest rate on one of my husband’s student loans has been going down, so the payment has been declining. Rather than pay less, he paid the same amount as before with the expectation the overage would be applied to the principal. We studied the latest bill and discovered that they’ve been prepaying interest instead! Why would anyone prepay interest? Now we’ll have to call every month to tell them how to direct the payment.

Debt Goals for July
We’ll pay off the small medical loan in July. We’ll also pay at least $1,000 toward one of his high-rate student loans, and follow it up with a call to make sure it’s properly applied.

Debt Plan Update
My husband plotted out our debt payments for the rest of the year. We could pay off one of his loans even without the second windfall he’s expecting. We’ll easily eliminate the second one when that windfall arrives. We’re not 100% sure when my windfalls will start arriving, but we should get at least a portion by the end of the year, which will go toward our taxes. By not sure, I mean that we have dates, but I’m trying to decide whether I should try accelerate that schedule. As it stands now, I would receive the bulk of the money in 2009, which would reduce our tax burden for this year.

Progress on Other Goals
Money Magazine
predicts that the LA housing market won’t hit bottom until Q3 of 2009. I’m not prepared to wait that long to buy a house, partly because we’re rapidly reaching the point where we need the mortgage deduction (the interest will be far more than the standard deduction we get now.) I’m thinking we should look in spring of 2009. Prices are just starting to give in my area, so hopefully they’ll have taken a hit by then. By that we’ll also have reduced our monthly debt payment to $1100 (vs. $1700 at the beginning of this year.)

The emergency fund and retirement boosts are still on hold while we pay off debt, but I’m eager to get them started.

How was your debt progress this month?

If you haven’t already consolidated your federal student loans, then you’re currently out of luck. Due to Congressional budget cuts, most student loan issuers have decided it’s not economical to consolidate federal loans. You can consolidate private loans, but it’s more difficult. Nevertheless, you can find ways to save money on student debt. Here are my tips for saving money on your student loans, and my thoughts on a popular method you should avoid.

Set Up Automatic Student Loan Payments
Many lenders offer interest rate reductions when you set up automatic debits through their website. My lender reduces my interest rate by a quarter point. I did have to call them to sign up for the service, but once it was active, I started saving instantly. I also never have to worry about missing a payment because the money is automatically zapped from my checking account.

Always Pay On Time
In addition to avoiding late fees, paying on time could also result in an interest rate reduction. My lender offers a half point reduction after 36 on-time payments. Since my payments are automatic, they’re never late. I expect to see the reduction in October 2009, which will bring my rate down to 3.12%.

Overpay If You Can
One of my husband’s student loans has a variable interest rate, and the payment amounts change with it. Interest rates have fallen significantly recently, so the payment due has also fallen. He keeps paying the same amount, though. He’s now overpaying by $40-50 a month without impacting our budget at all. The lender is currently applying the overpayments to future interest, but soon they will start buying down the principal.

Pay Down Principal with Financial Windfalls
If you receive a windfall, use it to pay down the principal on your student loan. You might have to mail a check with a note indicating that the payment be applied to the principal. By paying down principal, you reduce the total interest over the life of the loan, which amounts to a substantial savings. Of course, you should only do this if your credit cards and other higher rate debts are paid off.

Don’t Pay Student Debt with a Home Equity Loan
If you do have federal loans, then you should keep them as student loans. Not only are they discharged if you die before they’re repaid, but they offer forbearances and deferrals if you experience a hardship. Private loans don’t offer these same advantages, but you shouldn’t use the equity in your home to consolidate student loans. If you fall behind on your payments, you could lose your house. That’s too big a risk.

Even though my husband and I plan to pay off a few of our loans this year, we still have a huge chunk of student debt. Saving just a little on them every month makes us feel a little better about the burden.

Edited to add: apparently you can consolidate federal loans through the government’s Direct Loan program if certain conditions apply.  Go to the Direct Loan to see if you qualify.

We’re about of a month ahead of my debt reduction plan. If you’re just joining the blog, one of my 2008 financial resolutions is to pay off $40,000 in debt. April was a good month for debt reduction, but May was much better. I’m still hopeful that we can pay off the full $40,000 by November.

Debt Reduction Successes in May
This month we paid off the second credit card, with an additional $2200 in debt payments. That was partially thanks to our stimulus check, which arrived just in time to make the big payment. The 0% interest rate expired in mid-April, but we managed to only accumulate $14 in interest before paying it off.

Debt Goals for June
We prepaid our December vacation, which means we’ll have to pay that credit card bill this month. We’d hoped to pay off the medical loan this month, but that will wait until next month.

Changes in the Debt Plan
Once again, we have more changes to the debt plan. The windfall I didn’t think we would get is once again on the table, but it will be doled out in smaller amounts between now and next March. We’ll have the bulk by year-end, though. That means we should not only have the debt paid of by November, but we should have the taxes saved up by the end of the year and pay off a third student loan by early March.

We still have our plan to start an emergency fund and boost our retirement, too.

Progress on Other Goals
I’m very concerned about our goal of buying a house early next year. We originally planned to buy a condo, but loans for condos are harder to get now. Home prices haven’t fallen enough to bring them within range, yet. Hopefully things will look better early next year after we’ve both had raises and our debt load is smaller.

How was your debt progress this month?

It seems that every week some personal finance writer or speaker explains that we could all get out of debt if we just stopped buying $5 lattes every day. If I hear that one more time, I will scream.

Why have all of these advisers fixated on the latte factor? While it’s true that buying a $5 latte every weekday for a year will cost you $1300, the average person has much more than $1300 in debt. I do realize that they’re trying to tell us to cut unnecessary daily expenses that add up over time, but at this point the latte factor has become such a standard claim that no one bothers to listen anymore.

True personal finance advice shouldn’t rely on tired clichés that everyone is using. If it were really as simple as drinking the free office coffee, no one would be in debt anymore. I don’t even drink coffee, so how on earth did I wind up in debt? Surely it can’t be that advanced degree I got? Could it be the wedding trip I had to take last year? No, it must be the lattes. That’s clearly the problem.

Getting out of debt requires more than simple cuts. It involves changing your attitudes about money, changing your lifestyle, and cutting many expenses so you’re living within your means again. Trimming that $5 a day is a good start, but it won’t solve the problem unless you’re exactly $1300 in debt due to your addiction to drinking high-calorie frothy beverages five days a week for the last year.

Real Debt Reduction Techniques
If you aren’t a big fan of lattes (like me), you may still have a few wasteful spending areas. Combine spending reductions with other tried-and-true debt reduction methods if you really and truly want to get out of debt.

Step 1: Go through all of your monthly spending – write it all down for a month – to see where your bugaboos are. It might really be a latte, but it could also be trips to the vending machine, your unused gym membership, or even library late fees. Cut several wasteful spending habits to produce real savings.

Step 2: List all your debts, and make a plan for paying them off. Set goals with realistic but challenging dates. In other words, plan to pay off $10,000 in a year, not in two months (unless you know you’ve got a big chunk of money coming.) The realistic date will provide motivation to avoid spending. Without a goal, it’s easy to say, “Well, buying this Coke won’t delay my debt too much, I’ll still pay it off eventually.” If you have a debt-payoff date in your mind, you know much all those little purchases will delay you.

If it helps, you can tell yourself that you can resume your normal spending once you’re out of debt. Here’s the secret they don’t tell you: once you pay off the debt, you probably won’t want to resume your old spending habits. Saving money feels good.

Step 3: Learn to be frugal in other areas, too. With the cost of food rising, groceries are big place where cutting spending is important. Eat more whole foods and fewer convenience foods. Shop at farmer’s markets, use coupons, and shop the weekly grocery flyer. Plan your meals in advance. Chances are that you’re wasting money if you buy groceries every day. You may forget that you already have food in the fridge and buy a duplicate item. Or you might forget to use something up before it goes bad.

Step 4: Change your attitude about money. This will happen over time as you pay off debt, learn to control spending, and learn to be more frugal. You’ll come to recognize money as a powerful, yet limited, resource that can help you reach your goals, not an endless spigot that you can fritter away at will. It’s not proof of your value as a person and spending it doesn’t make you into a better person or a better friend.

The latte factor certainly does apply to some people, but other people may hear that advice and dismiss it because they don’t buy lattes. If you’re that person, take a hard look at your finances and make a commitment to plugging the holes wherever they are.

We’re now a third of the way through my debt reduction plan. If you’re just joining the blog, one of my 2008 financial resolutions is to pay off $40,000 in debt. March was a good month for debt reduction. We managed to pay off one credit card entirely. April wasn’t quite as good, but we still made solid progress. Thanks to snowballing, we may be able to pay off the full $40,000 by November.

Debt Reduction Successes in April
This month we paid another $1700 towards our debt, in addition to our regular monthly payments. We were hoping to pay off another credit card, but car repairs got in the way.

Debt Goals for May
Thanks to our economic stimulus check, we should be able to pay off the second credit card this month. If we’re lucky, we’ll also pay off the last of a small medical loan.

Changes in the Debt Plan
Thanks to falling interest rates, one of our small student loans has seen its interest rate plummet 5% in the last four months. That gives us some extra breathing room, and has also made us change our plans slightly. Even though it’s the smaller of the two loans included in our debt goal, we’re going to pay off the larger one first. Its interest rate has only dropped 1%, so it’s still up around 11.5%.

We’re also going to fall a little short of our debt plan in June because we’re pre-paying our December vacation in order to save 40% and use our airline miles to get free flights.

It looks like we won’t be getting one of the two windfalls we were expecting this year, but we will hopefully have the other one by the end of the summer. If it arrives, that will eliminate a student loan entirely, and then we’ll start saving for the taxes on the two windfalls.

After we establish an emergency fund, we’ve decided to tackle a third small student loan in early 2009. It’s not a major dent in our finances, but it’s around $80 a month. With those three loans, the medical loan, and the credit cards paid off, our debt-to-income ratio will be nearly 40% lower than it was in January of this year.

After that debt is paid off, we’ll focus heavily on savings and retirement. The rest of the loans are so large that accelerated payments won’t put much of a dent in them, and won’t have any effect on our DITI when it comes time to apply for a mortgage.

Progress on Other Goals
Except for small increases in my retirement contributions due to fluctuating paychecks, we haven’t boosted our retirement savings yet. I’m also reconsidering where we should put the money when we do contribute. Neither of us gets a match, so we may opt to open Roth IRAs and only contribute a small sum to our 401K plans.

We haven’t yet opened the emergency fund, but we’re currently making more than we spend. We’re able to cover most emergencies by delaying our debt payoff plan by a couple weeks.

Our goal of buying a house is also looking further off. Prices are still falling in Los Angeles, and it looks like they may fall another 20% in the next year. On the other hand, our income is reaching a point where the lack of a mortgage interest deduction could bring us into AMT territory. It’s a tough call. The home purchase delay is another reason we’re vacationing this year. It will also allow us to really build up our emergency fund and save for taxes.

How was your debt progress this month?

Just like the living debt, sometimes old debts can come back to haunt you. This is called zombie debt. The good news is that you can fight this illegal debt collection without having to pay them a penny. I tell you how in the last of my five-part series on credit.

What is Zombie Debt?
Zombie debt is charged-off or expired debt that collection agencies have purchased for as little as one cent on the dollar. Sometimes they purchase them from creditors, other times they purchase them from other collection agencies. Even though you’re not legally required to pay the debt, they will review the credit scores and histories of potential victims. They then target those who have the most to lose.

Typically, you’ll receive an excessive bill for a debt with one of three characteristics:

  • The statute of limitations has expired
  • It was a result of identity fraud
  • It was discharged via bankruptcy or some other settlement

The collection agency will send you a letter demanding payment and threatening to sue you or add the collection to your credit report if you don’t pay up. Any attempts to deal with them will only encourage them to push harder. They’re banking on your fear of having your credit ruined, and your lack of awareness of your rights.

How to Fight Zombie Debt
First, don’t try to deal with the collection agency directly. Do not speak to them on the phone; do not offer them money to go away. If you pay them, they might decide you can pay more. If you speak to them, you may inadvertently agree that you do owe the debt.

Instead of dealing with them, take the following actions:

Verify the debt. Don’t speak to the collection agency, but do check your own records for some history of the debt. If it was charged off, you should have a record of that. If it’s an old debt, verify the statute of limitations in your state and the state where you created the debt. If both statutes of limitations have expired, you can’t be required to pay anything. The statute of limitations for most debts is six years, but it can be up to fifteen years in some states.

Write to the collection agency. Send them a certified letter demanding that they cease contact with you. Federal law requires that they comply. State that you do not acknowledge the debt in the letter.
Monitor your credit report. Often, they will illegally re-age the debt to make it appear current and restart the seven year clock. If the debt appears, dispute it with the credit bureau. If the collection agency persists, demand that they produce documentation of the original debt. In most cases, they don’t have documentation. Continuing to report a debt they can’t document is a violation of the Fair Debt Collection Practices Act. If they do have documentation, then it will most likely prove that you no longer owe the debt.

Hire an Attorney. If the statute of limitations isn’t expired, hire an attorney to negotiate a settlement with them. Contact the National Association of Consumer Advocates for a referral. If the debt isn’t valid, they can’t document it, and they continue to harass you, hire an attorney to fight for you.

Fortunately, the FTC is actively pursuing illegal collections, and has shut down some collection agencies engaged in aggressive practices, including pursuing zombie debt. If you’re the victim of an illegal debt collection, follow the above steps and then report them to the FTC.

One of my 2008 financial resolutions is to pay off $40,000 in debt. February was a great month for debt reduction. We didn’t have a windfall this month, so our progress wasn’t quite as spectacular, but we’re still on track to pay off the full $40,000 by the end of December. I’ve also made more progress on other goals.

Debt Reduction Successes in March
This month we paid another $3400 towards our debt, in addition to our regular monthly payments. One credit card is now completely paid off and the other one is down to 1/3 of its original balance.

Debt Goals for April
For April, we will cut the remaining credit card debt in half again. The interest will resume in mid-April, but the balance will be low enough that transferring it wouldn’t be worthwhile. Thanks to our economic stimulus check, we should be able to eliminate the credit card debt and a medical debt completely in May.

Progress on Other Goals
We haven’t yet boosted our retirement funds or started an emergency fund, but I can feel it getting closer.

We’re also reconsidering our goal of buying a house by the end of the year. On the one hand, our windfalls may mean that we’ll get hit by the AMT if we don’t find more deductions. On the other hand, prices in LA are expected to continue plummeting at least into early 2009. Although we plan to buy a place we can live in for five years, we still don’t want to overpay. If we opt not to buy until early 2009, we’ll focus our finances on saving for retirement, planning for taxes, building an emergency fund, and paying down higher-rate student loan debt. We may even squeeze and affordable vacation in at the end of the year, without creating new debt to do it.

If you have financial resolutions or debt reduction goals, how’s your progress? Tell me in the comments.

My husband isn’t a profligate spender, but he hasn’t been fully on-board with my plan to pay off $40,000 in debt this year. Don’t get me wrong, he was thrilled with our February debt reduction progress. He’s equally determined to get rid of the credit cards and at least one student loan, but he wasn’t convinced we could pay off two of them and the medical debt so quickly.

Then last night he prepared our March cash flow budget and also took a look at our annual expenses versus our current income. That was the breakthrough. After looking at the numbers, he discovered that we only have $1,000 more a month than we earn. That’s not enough to afford a mortgage, insurance, property taxes, and HOA fees, at least not and have anything left to put into savings, start an emergency fund, and maybe have a little fun.

I pointed out three things:

  • The amount of mortgage interest we would pay in the early years will reduce our taxable income (it will be about double the standard deduction), so we can reduce our withholding after we buy
  • We will hopefully both receive raises before we’re ready to buy
  • If we succeed in my debt plan, we’ll free up nearly $550 a month.

That got him. The prospect of having an extra $550 a month by the end of the year, even without factoring in withholding or raises is a big deal.

I think I finally have a true partner in this plan to reduce our debt. Maybe now he’ll listen when I brainstorm ways to reduce our expenses. He might even agree to some of them. He’s not a big spender, but I’m borderline cheap and that’s caused some tension. I’m hoping he’s seen the frugal light and will join me under it’s lovely glow.

One of my financial resolutions is to pay off $40,000 in debt. January was a good month for debt reduction, but February was a great month. Not only did I make good debt progress, but I also made progress in other goals.

Debt Reduction Successes in February
Due to a windfall, we were able to pay $11,500 in addition to normal debt payments this month. We will have to pay taxes on the windfall come April, 2009, but we decided to use all of it for debt now and then save for the taxes once the debt is gone.

That large a payment means our credit cards are more than 50% paid off. One credit card is at 0% until April, so we’re deciding whether to transfer again and take another hit on our credit, or simply pay it down with interest. By April, the balance should be low enough that the interest will be manageable. We are expecting one more windfall sometime in late summer, and hoping for a second within the next several months.

Debt Reduction Goals for March
For March, I would like to have one credit card completely paid off (about $1,000), and make a $1,500 dent in the remaining balance of the other debt.

Progress on Other Goals
I boosted my retirement withholding, but only because of a salary increase, not because I increased the actual percentage. The emergency fund hasn’t been started yet, but it’s getting closer.

Even without the debt, we would probably continue to wait until the end of the year to buy a house. Prices are falling fast in Los Angeles, but one lender is now requiring a 25% down payment. More lenders may follow their lead. By waiting until the fall, we can hopefully have more options in our price range and be dealing with less panicked lenders who understand that a 25% down payment is excessive for a first-time home buyer.

I also have a goal of losing weight that I haven’t mentioned on the blog before. My initial goal was to lose eight pounds. So far I’ve only lost three, but my clothes are fitting much better, so I suspect that I’ve lost fat and gained muscle. My new goal is to drop one dress size. I’m halfway there already.

If you have financial resolutions or debt reduction goals, how’s your progress? Tell me in the comments.

Many people treat a tax refund as “found money” or “free money.” What they don’t realize is that it’s their money, and always was. The money was an overpayment of taxes owed, which the government was happy to receive as an interest-free short-term loan.

Once you start thinking of your tax refund as a portion of your income, and not as free money, you’ll rethink the way you spend your tax refund. Rather than wonder, “Why is my refund so low,” you’ll think, “Yay, my refund is low!”

Five Good Ways to Spend a Tax Refund
Here are my top five ways to spend a tax refund:

  1. Don’t receive one! The best way to spend your refund is to never receive one in the first place. No, I’m not suggesting you donate your refund to the government. I’m suggesting that you adjust your tax withholding http://www.soundmoneymatters.com/tax-withholding/ to ensure that you only withhold what you owe. This year my husband and are receiving less than $200 from our federal and state tax refunds because we managed to pay almost exactly what we owe. (It was an accident this year, but we intend to do it again.)
  2. Pay down debt. If you owe any debt, use your refund to pay it down. That’s where our tiny tax refund is going.
  3. Boost your emergency fund. If you don’t have any high-rate debt, then use the money to boost your emergency fund. Even adding a little bit to an interest-bearing savings account can help you out in a pinch.
  4. Invest it. The average family receives a $2000 refund. If you’re one of them, that’s a pretty sizable investment. If you were to deposit $2,000 in a Roth IRA at age 35 and average an 8% return, you would net $20,125 by age 65 without adding another cent.
  5. Spend a little and save the rest. If you’ve been frugal all year long, reward yourself with a nice bottle of wine or a nice night out, then save the rest. Don’t overdo it, but spending $50-$100 is a good way to treat yourself every now and then.

Five Bad Ways to Spend a Refund
I have to admit that I’ve been tempted to waste tax refunds in the past. Especially when I didn’t have any debt – I just spent it whenever I felt like it. Now I know better. Here are five bad ways to spend a refund:

  1. Blow it on a vacation. Many people use their refunds as vacation funds. There’s nothing wrong with taking a vacation if you can afford it, but it shouldn’t depend on whether or not you receive a tax refund. Instead, adjust your withholding to the correct amount and save the additional money you receive in your paycheck. Simply divide the amount of your previous year’s refund by twelve and deposit that amount into a savings account every month. Even if you only earn $20 in interest, that’s $20 more than you could have spent on vacation if you’d simply used your refund.
  2. Blow it on clothes. We all need clothes. No one needs a $2000 pair of shoes. Buy new clothes if you need them, but don’t go on a shopping spree just because you got a refund.
  3. Blow it on a big screen TV or another large, unnecessary purchase. If you wouldn’t buy it without the refund, then don’t buy it because of the refund. Instead, save up for it. If you still want it after months of saving, then go ahead and buy it.
  4. Fritter it away. Even if you don’t set out to waste it, not having a plan for the money could be just as bad. If you think, “It’s only $10. I got that refund, so it’s fine,” those purchases will add up quickly. You could wind up spending more than the refund.
  5. Stick it under your mattress. My friend’s father didn’t trust banks (he was from WWII Germany). When he died, his family found over $30,000 in cash tucked away in boxes and stuffed under the mattress. Imagine how much more money he would have had it if he’d put it in safe investments or a savings account.

Now that I’ve shared my tax refund strategies, how do you plan to spend a refund? Have you ever wasted it? Do you have any good ideas for spending it? Tell me in the comments.

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