Where the Money Goes

An email arrived last week in my inbox that I had trouble believing. If it had not come from a company I was already doing business with, I’d have sent it straight into the spam bin.

The email was from one of my credit card companies suggesting that I “make tax season a little brighter. Simply use your [credit card] to pay for your federal or state payments online and you’ll be rewarded.¹^,² Not only is the process fast and secure, you’ll earn valuable points you can redeem for travel, gifts and more." (Footnotes say that only some states accept credit card payment and that additional fees may apply.)

There was a time when financial advisors would urge, even beg, people to use their tax refunds to pay down their high interest credit card debt. Now we get the opposite; pay the taxes on time with the credit card, so instead of paying interest and penalties to the government for late payments, we open up the possibility of paying interest and penalties to the card company. This seemed pretty crazy until I noticed some of the other financial decisions happening across the country.

This recent USA Today piece tells a scary story. Many Americans have gotten into the habit of ignoring the total price of things they buy. If they believe they can fit the monthly payments into their budgets, they go ahead with no consideration of overall cost, including interest on the loan. 

The particular example here is car buying. In one expert’s opinion, "Easy credit and longer repayment terms have coaxed many consumers into buying more car than they can really afford," causing car debt to reach an all time high of $1.2 trillion. 

One banker remarked that his company limits auto loans to 72 months, but some competitors offer 84-month loans. That seems a little strange as the average length of car ownership hovers around 80 months. It’s more like renting a car than really owning one (and owing more than it’s worth for almost the entire time). But this mindset is to look at the monthly payment, to ignore the regularly increasing interest rates and to buy as much car as fits the budget. So people can be easily drawn to the midsize SUV rather than a midsize car with a price difference of almost $13,000, just increase the length of the loan.  Meanwhile GM is forced to close a small car assembly plant in Ohio due to fewer buyers. (Then the price of gasoline goes up, and everyone  starts complaining! Whoops, behavior has consequences.)

What most don’t realize at the time of purchase is that the car is collateral for the loan. One downturn in the economy or one temporary job loss for any other reason could mean losing the car no matter how faithfully payments were made up to that point. An example from the article tells of a 26-year-old, who lost her job at as a legal researcher and was unemployed for two months. She went into default and her 2010 Chevrolet Equinox was repossessed. That is not an isolated case. “More than 7 million Americans are now at least three months delinquent on their auto loan payments, the benchmark for many lenders to trigger a repossession.”

The behavior continues. Credit cards offer deals to help you earn “valuable” points, while banks and finance companies offer longer and longer loan durations to keep payments down (and their profits up). Everyone thinks in terms of installments rather than total cost. When the shocking news comes that you can’t buy a retirement on those same terms, it’s too late. The consequences of poor economic understanding coupled with poor critical thinking will be devastating. Everyone will be looking to the government for a bailout, a government with the same attitude of buying now and borrowing to make up the difference with no concern about the future.