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Why Don't People Manage Debt Better?

blogs.scientificamerican.com

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Re: Why Don't People Manage Debt Better?

#121

Post by breischl »

The article ignored the completely rational reason to pay off small debts first - increased liquidity.

By paying off small debts first you can reduce the amount of money you have to come up with each month. If you have any uncertainty around income or other expenses, there is real value in that.

Doubly so for debts that could be foreclosed on - if you prepay your mortgage a bunch and then fall behind and get foreclosed on, all that prepayment is just cash down the drain. If you had completely paid down some smaller debts instead, you would be in a better position.

Basically, paying down higher-interest debt first is optimal only if you're certain that you'll never default on anything.

Re: Why Don't People Manage Debt Better?

#122

Post by Esox »

kagamine wrote: post #16
pilom wrote: post #8

This is showing that the Dave Ramsey "debt snowball" (pay off smallest debts first to get a psychological win and some breathing room by having fewer minimum payments) is a more effective way to get people to pay off many separate debts than paying off "highest interest rate first" even if it is less optimal for a rational actor. Just another case of people aren't 100% rational that many people have known for a while…

That does sound rational though, by paying off the small debts you reduce the amount of information you have to comprehend. It may not be ideal financial advice, but it will make the remaining debt easier to manage on an emotional level. You also get the peace of mind that those smaller problems will now not spiral into larger problems. You are free to focus on a resolution to the problem.

I think you hit the nail on the head. My wife and I are using the debt snowball method and I just payed off one of our debts in full yesterday.

It may not have been the largest debt or the one with the highest interest rate but it's one thing I don't have to worry about now. It's one fewer company I have to deal with monthly. It instills a sense of hope that "we can do this!" that I'm hoping will bolster our budgeting and help us tackle the larger debts.

Re: Why Don't People Manage Debt Better?

#123

Post by greenleafjacob »

dpierce9 wrote: post #70

One wrinkle here is that some debts have variable rates. For instance, if you have a balance with a 3% variable rate and one with a 5% fixed rate, but you are in a rising interest rate environment, the 5% fixed rate loan is effectively a hedge on the 3% loan. It drags up your effective loan rate while interest rates are lower than 5% but it lowers your effective rate if rates rise above 5%. You can determine whether…

Wouldn't this depend on how frequently it's capitalized? If it's continuous or even monthly it's better to just look at the APR.

Re: Why Don't People Manage Debt Better?

#124

Post by tomp »

pessimizer wrote: post #102
douche wrote: post #61

Earlier quoted context omitted.

It's pretty numb to use debit cards as opposed to credit cards, for various reasons. A.) You can't over-draw a credit card, and get hit with overage fees or bounced-check insurance, or all the other things banks do - particularly with the slightly nefarious way they often choose to order your transactions when they close their books. Particularly troublesome with businesses that put in a hold on your card, then charg…

A) Opt out of "overage fees and bounced-check insurance" which would be the problem here, not debit cards. Keep track of your own finances. B) Don't live check to check. Keep track of your own finances. C) And if you fail to do that once (because you're probably living check to check), you've nullified any free benefit you ever received. D) Horseshit. I had my card stolen by the Target breach, there were charges on i…

> A) Opt out of "overage fees and bounced-check insurance" which would be the problem here, not debit cards. Keep track of your own finances.

How would that work? With banks in the UK, you can either say (1) let the charge through, in which case they will charge you "unapproved overdraft fee" or something, or (2) reject the charges, in which case they will charge you "unpaid transaction fee" and not pay the bill (which I think is a crime, because they're literally charging you for nothing - as they didn't deliver the service (pay the charge)), in addition the company that issued the request will charge you a fee as well.

I can only hope that elsewhere, regulations are a bit more sensible so that there is no potential for this kind of abuse.

Re: Why Don't People Manage Debt Better?

#125

Post by crystalmeph »

zrail wrote: post #92
crystalmeph wrote: post #68

Earlier quoted context omitted.

I'm not well versed in the history of consumer debt, but 34% carrying month-to-month debt seems historically high, since consumer credit cards were only widely introduced in the mid-20th century[1], and took a few decades to reach mass penetration. The page you linked to shows that even the events of 2008-2009 didn't set people back from expanding their personal debt, which is surprising to me. Given our fairly short…

> The page you linked to shows that even the events of 2008-2009 didn't set people back from expanding their personal debt, which is surprising to me. The page I linked, under the heading "Transactors versus revolvers," presents a chart that shows the percentage of households with revolving debt declining from 44% in 2009 to 34% in 2014. A 22% decrease over five years is rather significant, no?

Interesting. I was looking at the total debt, the first graph in the article. So fewer people carry month-to-month, but the total dollar amount of revolving debt is still going up. It is good that fewer people carry it, but it still looks like a significant portion of the population is increasing their debt level.

Re: Why Don't People Manage Debt Better?

#126

Post by tamana »

bradleyjg wrote: post #58
imgabe wrote: post #17

Anyone at a point where they are making monthly payments on multiple credit cards has already lost the debt game. People don't manage debt better because they have been marketed to and taught to use debt completely inappropriately. Debt should be used to purchase an asset that will appreciate or otherwise provide an income in excess of the interest payment on the debt. Full stop. That is how businesses use debt and t…

I don't think such an absolute position is warranted. It's true that saving up for a big purchase will end up costing you less money than borrowing to pay for it and paying it back. But you will have the item purchased for less time. Suppose you have enough disposable income to pay for a new $1200 TV over the course of 12 months. In scenario 1, you save $100 each month. The bank pays you 0.5% interest. As of January…

In practical reality though, if you can't afford to pay cash for it, you can't afford it. People ignore a lot of the hidden/maintenance costs in their lives.

Re: Why Don't People Manage Debt Better?

#127

Post by Vraxx »

infinite8s wrote: post #98
maxsilver wrote: post #86

Earlier quoted context omitted.

American Express has a card "Blue Cash Preferred". You get 6% back on Groceries (up to $6k/yr), 3% back on gas, and the card has a $75 annual fee. If you only use the card to spend $100/week on Groceries, you get $312 in cashback rewards. Subtract the $75/yr fee, and Amex paid you $237 to use their card that year. (Amex isn't the only card like this -- there's lots from MasterCard and Visa as well. This card in parti…

I don't understand these reward schemes. Surely they are being funded by higher merchant fees, which means merchants charge more, which just means that the rewards are a transfer scheme between people who pay by cash/unrewarded cards and those with rewards cards.

I've had the same qualms, my guess was always that it is subsidized by those that use the rewards cards in a suboptimal way, such as carrying a balance and paying interest. Either way, the end result has been me having a desire to be on the rewards card side and using it for a net gain.

Re: Why Don't People Manage Debt Better?

#128

Post by tamana »

pessimizer wrote: post #117
ethbro wrote: post #113

Earlier quoted context omitted.

> B) Don't live check to check. Keep track of your own finances. I'm not saying this to be aggressive, but you're missing something in the calculation. http://www.investopedia.com/articles/03/082703.asp

You should be more aggressive, because I don't understand the point that you're trying to make.

He's saying that you could make $7 by investing your cash for 30days before paying the charge card.

Re: Why Don't People Manage Debt Better?

#129

Post by tamana »

infinite8s wrote: post #98
maxsilver wrote: post #86

Earlier quoted context omitted.

American Express has a card "Blue Cash Preferred". You get 6% back on Groceries (up to $6k/yr), 3% back on gas, and the card has a $75 annual fee. If you only use the card to spend $100/week on Groceries, you get $312 in cashback rewards. Subtract the $75/yr fee, and Amex paid you $237 to use their card that year. (Amex isn't the only card like this -- there's lots from MasterCard and Visa as well. This card in parti…

I don't understand these reward schemes. Surely they are being funded by higher merchant fees, which means merchants charge more, which just means that the rewards are a transfer scheme between people who pay by cash/unrewarded cards and those with rewards cards.

That's exactly right. It's a game you are forced to play, even if you don't want to use any cards at all.

Re: Why Don't People Manage Debt Better?

#130

Post by charlesdm »

kdamken wrote: post #110
charlesdm wrote: post #101

Earlier quoted context omitted.

This is the best way to get depressed. It's always significantly easier to negotiate a $1k raise than it is to reduce your spending on basic stuff by $1k. Focus on earning more, not saving (on useless expenses).

I like buying stuff as much as the next guy, but if not buying things you don't need would make you depressed, you probably have deeper issues that need addressing.

If you want to save money, do it on large purchases. Buying a $30k car? Negotiate aggressively so you can buy it for $23-25k. Anything above a few $100 is worth haggling over.

Do you know how many people pay the listing price of a car, yet cut coupons to save a few euros/dollars? A lot. It's ridiculous.

Some of the joys in life are simple things, such as drinking a $2-3 coffee or having a cocktail in a nice bar, etc.

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