Long-Term Rates Will Edge Higher

When the Federal Reserve signaled in June that it expects to raise short-term interest rates by the end of 2023—sooner than an earlier forecast—the response was immediate and fierce. The Dow Jones industrial average dropped more than 800 points, and the price of the 10-year Treasury note also dropped, increasing the yield to nearly 1.6%. Rates on 30-year mortgages rose above 3% for the first time since April.

The backdrop to all this worrisome news was rising inflation, which prompted some to recall the dark days of the early 1980s, when the Fed raised interest rates sharply to curb it. Back then, home buyers were lucky to lock in a 30-year mortgage for less than 12%.

But something strange has happened in the weeks since the Fed announcement: 10-year Treasury note yields have fallen back, and with them, rates for 30-year mortgages. As of July 15, the average rate for a 30-year mortgage was 2.88%.

Economists attribute the lull in mortgage rates to several factors, ranging from worries about whether the rise in the COVID-19 Delta variant could curb economic growth to a growing consensus that the inflation spike is a short-term phenomenon. “Investors are buying into the idea that a lot of the very strong inflation figures are due to transitory factors,” such as slowdowns in supply deliveries, says Matthew Speakman, an economist for real estate website Zillow.

Still, interest rates will eventually head higher (although nowhere near what we saw in the 1980s). Kiplinger is forecasting that the 10-year Treasury will rise to 1.8% by the end of 2021 and 2.3% by the end of 2022. The average rate for a 30-year mortgage is expected to rise to 3.3% by the end of 2021 and move up to 3.8% by the end of 2022.

That means home buyers, who are dealing with limited supply, probably don’t need to scramble to lock in a rate (see How to Win in a Red-Hot Housing Market).

Short-term interest rates, which determine rates on credit cards and home-equity lines of credit, are expected to remain near zero through 2022. That’s good news for borrowers—assuming they can get a loan. Several major banks, including Wells Fargo, JPMorgan Chase and Citibank, halted new home-equity lines of credit during the pandemic and have yet to resume their offerings.

Credit card issuers, on the other hand, are eager to sign up customers, particularly since many borrowers used their stimulus checks or savings on canceled vacations to pay off balances during the pandemic. Credit card rates are still much higher than rates on other loans—the average rate is about 16%—but many issuers are looking to entice new customers by expanding their rewards programs (see New Perks From Our Best Rewards Cards).

No relief for savers. Meanwhile, the only good news for savers is that rates on savings accounts, certificates of deposit and other safe parking places probably won’t fall any more, says Ken Tumin, founder of DepositAccounts.com. The average rate for bank online savings accounts is about 0.45%, and major brick-and-mortar banks are paying even less than that. Locking up your money in a CD won’t boost your yield: The average rate for a one-year CD is just 0.17%, and you’ll get only 0.31% on a five-year CD, according to Bankrate.com.

It’s not just interest rates that are keeping yields low, Tumin says. The personal savings rate soared during the pandemic as consumers lowered their spending and banked their stimulus checks for a rainy day. In the first quarter of 2021, bank loans accounted for only about 58% of deposits, says Tumin, down from 69.5% in 2020. That indicates banks have plenty of money to lend and will be in no hurry to raise rates to attract more deposits, even after the Fed hikes short-term rates.

There are steps you can take to earn a higher return on money you can’t afford to lose. Some high-yield rewards savings accounts offered by local banks and credit unions offer rates as high as 5%. The trade-off is that they typically cap the amount of deposits eligible for the high rate and require you to meet certain criteria, such as using the institution’s debit or credit card a certain number of times each month, having your paycheck direct deposited, and conducting all of your business online. For example, Consumers Credit Union (Illinois) pays 4.09% on up to $10,000 if you spend at least $1,000 a month on one of its credit cards, have direct deposit and meet other requirements.

Another option for money you don’t expect to need right away is a Series I savings bond. The composite rate on Series I bonds issued through October is 3.54%. The rate consists of a fixed rate—currently 0% on new bonds—and an inflation rate, which is based on the government’s consumer price index and adjusts every six months from the bond’s issue date (see Earn 3.54% With Series I Bonds).

A big raise for seniors

Inflation can be particularly tough on retirees who are living on a fixed income, but the recent price spikes have an upside. The Kiplinger Letter is forecasting that the annual cost-of-living adjustment for Social Security benefits for 2022 will be 6.3%, the biggest jump since 1982, when benefits rose 7.4%.

The projected increase reflects the rebound of consumer prices that were depressed during the pandemic. COLAs are calculated using the consumer price index for urban wage earners and clerical workers.

Source: kiplinger.com

11 Ways to Avoid a Financial Midlife Crisis

Midlife crises are expensive.

From flashy cars to trendy clothes and accessories to artificially trying to look younger with Botox or surgeries, midlife crises cost you both money and stress.

It’s not easy parting with the vigor, fitness, and attractiveness of youth. Nor is it easy to accept our own mortality on a visceral rather than conceptual level. As you navigate the middle years of your adulthood, try the strategies below to stop the emotional and financial bleeding, and inject some fresh vitality into your life.

What Is a Midlife Crisis?

The idea of a “midlife crisis” was first popularized by Freudian psychologists like Carl Jung in the early and mid-20th century. Because there’s no official diagnosis or definition for a midlife crisis, and it expresses itself in many different ways, it’s difficult to study scientifically.

Consider two different models for midlife crises. In the classic model, it takes the form of an acute emotional crisis, often triggered by a single event during adulthood such as a death, divorce, or job loss.

The American Psychological Association explains that emotional crises are usually marked by a “clear and abrupt change in behavior” and can manifest through depression, trauma, eating disorders, alcohol or substance abuse, self-injury, and suicidal thoughts. Sadly, the suicide rate among middle-aged adults is distinctly higher than other age groups, per the American Foundation for Suicide Prevention. Middle-aged white men see particularly high suicide rates, with men nearly four times as likely to die by suicide than women.

The other model for midlife crises is more protracted, expressed as a period of lower happiness or slow-burning depression. Studies such as a 2020 paper by Dartmouth’s David G. Blanchflower demonstrate a “happiness U-curve” over the course of adulthood, with happiness declining through our young adult and early middle years before bottoming out in middle age. Happiness levels then start to rise again, with older adults reporting greater satisfaction and well-being.

During midlife crises, adults tend to contrast the goals and dreams of their youth against their current life — and find it wanting. That can lead to thoughts like “I’ve wasted my youth,” or “What have I done with my life?”

It’s hard to imagine a worse feeling.

Signs and Symptoms of a Midlife Crisis

In response to these feelings, adults often start flailing for a lifeline — anything to make them feel young, successful, attractive, energized, or in control of their lives and destinies again.

Although a midlife crisis feels immensely personal while you’re experiencing it, you’re not alone. Over one-quarter of adults admit to experiencing a midlife crisis, according to the Midlife in the United States studies. Just imagine how many more people experience one and don’t talk about it.

The common signs that you or a loved one may be experiencing a midlife crisis can take a variety of forms. Some are physiological and psychological, including depression, changes in sleep patterns, and an uptick in substance use. This can produce effects ranging from trouble getting out of bed in the morning to maddening insomnia to abusing drugs or alcohol. (If you notice any of these symptoms, consider seeking the counsel of a doctor or therapist.)

A midlife crisis can also lead to changes in one’s attitudes and behaviors, such as a sudden obsession with physical appearance, an increased interest in status symbols, or infidelity. It often accompanies feelings of resentment or blame that can wreak havoc on personal and professional relationships, and may be characterized by feeling restless, apathetic, or unfulfilled.


Financial Impact of a Midlife Crisis

Midlife crises can ruin you financially.

Before letting yourself drift into a midlife crisis, think twice about the destruction you could sow. You can literally lose everything you own and hold dear.

Therapists are cheap by comparison.

Risk of Divorce

Few events in life are as traumatic — or expensive — as divorce. The divorce process itself can cost tens or even hundreds of thousands of dollars between attorney fees, home sale costs, and other expenses from separating all your legal assets. Which says nothing of ongoing costs like alimony or child support.

Everything you own goes under the microscope to be parsed and parceled. Anyone who tells you they came out ahead in a divorce clearly didn’t fight fair, because divorces inherently drain assets rather than build them. Only lawyers get rich off divorces.

As painful as life may feel in a midlife crisis, it can get worse. And often, “worse” looks like divorce.

Risk of Job Loss and Career Derailment

Those feelings of apathy and restlessness could cost you your job in addition to your marriage.

It’s common sense: depressed people who feel unfulfilled by their job simply won’t produce quality work. That means they won’t earn promotions, won’t secure glowing references to help them get a new job, and won’t be first on any friends’ or colleagues’ list to recommend when new opportunities arise.

That’s assuming they don’t get fired, of course. Or worse, flamboyantly quit and “go out in a blaze of glory.”

All of these outcomes can make it extremely hard to find a new job, especially a better job.

The Direct Cost of Splurges

Even people who don’t lose their jobs or spouses can still end up blowing absurd amounts of money on midlife crisis splurges.

Take your pick: sports and luxury cars, boats and yachts, motorcycles, flashy and expensive hobbies, outrageous vacations, vacation homes, cosmetic surgeries, overpriced designer clothes and accessories. The staples of midlife crises cost money, and a lot of it.

That’s money you could put toward building real wealth, toward your long-term financial goals that you’ve actually thought through rationally with your partner or financial advisor. Goals like, say, saving a down payment for your dream home, saving for retirement, or helping your children with their college costs.


Strategies for Preventing or Escaping a Midlife Crisis

Yes, every midlife crisis looks different. One person might take up with their much-younger secretary, while another goes down the rabbit hole of serial cosmetic surgeries.

But they all cost you, and usually in more ways than one.

The following strategies can all help you retain (or regain) control over your life, your happiness, and your personal finances. You’re not alone, no matter how it feels in the moment. Bring your life back into alignment with intentionality, and a focus on improving your personal relationships and progress toward long-term goals.

1. Talk Through It With Loved Ones and Professionals

Your spouse, family, friends, and other loved ones don’t know what you’re going through if you don’t tell them. Even if they suspect you’re falling into a midlife crisis, they don’t understand your perspective without you explaining it.

Try them. Be patient with them, just as you want them to be patient with you. They probably won’t fully understand it the first time you broach the topic, but that doesn’t mean you should never discuss it with them.

To meaningfully change your life, you need to bring the people who share that life with you on board with any changes. But it also helps to simply unload, to unburden yourself to a disinterested third party.

Talk to a counselor or other professional, not for advice per se — although they may offer sound ideas — but simply to get your grief and anxiety off your chest and out into the open. Left swirling inside of you, these emotions can build up pressure until they burst.

2. Retake Control With Lifestyle Design

Far too many people drift with the tides of life, falling into their jobs, their relationships, even the city where they live. It’s no wonder so many wake up one day and realize they’re living a life they don’t actually like.

Sit down and write out a description of your ideal life, starting with where you live, the kind of work you do, your family life, your social life, your hobbies, and every other detail you can put to paper. No holds barred, nothing off-limits — simply outline your perfect life.

Once you’ve written out the what, you can then start brainstorming the how. The process is called lifestyle design. It doesn’t happen overnight, but by steadily working toward a life you actually want to live, you’ll find fresh meaning and purpose.

3. Reevaluate Your Long-Term Goals

Similarly, your life should align with your long-term goals. When they no longer align, you start drifting in a direction you don’t truly want to go.

For example, my top financial goal is to reach financial independence within the next few years by building enough passive income to cover my living expenses. At that point, working becomes optional. I pursue passive income by budgeting a high savings rate (more on that momentarily) and funneling as much money as possible into investments. And despite feeling the occasional midlife pang, I can still sleep each night knowing that I ended the day closer to my goal than when I woke up that morning.

Whether you aim to buy a new home, retire early, help your kids with college, take dream vacations, or maybe even buy that dream sports car, take a second look at your long-term goals — then form a financial plan to reach them faster. And if you need some expert advice, don’t be afraid to reach out to a financial advisor or other financial professional.

4. Increase Your Savings Rate

Money can’t solve every problem — but it can solve many. And even when it can’t solve a problem entirely, it can usually help. For example, anyone can get sick or injured, but the more money you have, the better your health insurance and medical outcomes tend to be.

To paraphrase author Robert Kiyosaki: I’ve been happy and rich, I’ve been happy and broke, I’ve been unhappy and rich, and I’ve been unhappy and broke; and I can assure you that being unhappy and rich is still a lot better than being unhappy and broke.

So how do you build wealth faster? By growing the gap between what you earn and what you spend: your savings rate.

I don’t know what tomorrow will bring, but I do know that more wealth will better prepare me and my family for it. And I can also tell you firsthand that when I feel those midlife pangs, such as thoughts like “My old college roommates earn more than I do,” I find some comfort in my frugal but high-savings lifestyle.

5. Become Debt-Free

While you don’t necessarily have to pay off your home loan or even your car loan in full, you should definitely not carry any unsecured debts by the time you reach middle age.

First and foremost, that includes paying off your credit cards in full every month. But beyond credit card debt, it also includes student loans, personal loans, and any other unsecured loans.

Stop paying high interest rates on consumer debt. It’s awfully hard to achieve financial stability and build an emergency fund — much less build retirement savings in your IRA or 401(k) — when you have high-interest debt repayments hanging around your neck each month.

When you become debt-free, you suddenly start thinking offensively instead of defensively. It frees you to focus on building wealth, passive income streams, and perhaps even replacing your full-time salary with investment income. You gain a welcome feeling of control over your finances and your future, which does wonders in fending off midlife crises.

6. Consider a Career Change (Carefully)

Quitting in a blaze of glory might look great in movies, but it won’t do your career any favors. Of course, that doesn’t mean you should stay in that unfulfilling job either.

As part of your foray into lifestyle design, spend some time brainstorming careers that better fit your passions, strengths, and long-term goals. Bear in mind that the jobs you grow up hearing about — teacher, cop, accountant, and so forth — make up a minority of the actual jobs available today. Many of the jobs in today’s workforce didn’t exist five years ago, and you may never have heard of them.

Consider meeting with a career counselor to take a career aptitude test and discuss options. Although often not cheap, you walk out with a slew of ideas that had never previously occurred to you — ideas that could well fit you better than your current job.

And, of course, they might also offer a higher salary or better benefits.

In my post-college life, I’ve been a mortgage loan officer, a real estate investor, an Internet marketer, an e-commerce executive, a founder of an online startup, and a freelance writer. Twenty years ago, I would have raised an eyebrow if you’d told me I’d end up doing any one of those jobs.

For fun, explore alternatives like jobs that provide free housing and jobs that let you live anywhere. If you need a dash of adventure, becoming a digital nomad can certainly do the trick.

Just don’t lose your spouse in the process. Talk through major career or lifestyle changes with your partner before charging forward without their knowledge or support.

7. Consider a Side Hustle

Not everyone going through a midlife crisis is ready to change careers just yet. But they may still want something more from their working life, both financially and emotionally.

In that case, consider starting a side hustle while you figure out what you want to do with your career. You can turn a hobby of yours into a business and keep it fun if you like.

Starting a business doesn’t have to mean selling off all your assets and pouring it all into inventory and a commercial lease. To keep your startup costs low and build cash flow quickly, consider starting an online business.

All the while, you can keep working your day job while you decide what you want to do with the rest of your life.

8. Find a Mentor or Coach

Don’t try to reinvent the wheel on your own. Ask for guidance from people who have done what you want to do, and who can show you all the shortcuts.

Beyond helping you skip costly mistakes and detours, mentors and coaches can also help you ask the right questions. They have the benefit of both experience and outside perspective, and can see angles that you can’t while in the thick of your day-to-day struggles. “I know you think you want X, but from what you’ve told me, it sounds like Y would actually be a better fit for you.”

Mentors and coaches also help you feel less alone. They can take you by the hand and guide you back to the path you actually want to walk through this life.

9. Embrace Adventure — Constructively

My wife and I may not earn enormous salaries like some of our friends do, but we lead a life of adventure, travel, and endless opportunities.

We spend 10 months per year overseas. It took some work to move abroad, between my wife finding a job as an international school counselor and me establishing income streams I can earn from anywhere. But we did it because we didn’t want to follow the same trajectory of white picket fences and overpriced mortgages that we saw our friends following.

It was one of the best decisions we ever made. We live in a country with a low cost of living, enjoy free housing and outstanding health care, and get to visit an average of 10 countries each year.

But we did it together, and we planned it carefully. We put in the work, rather than one of us just running off one day in the throes of a full-blown personal crisis.

You don’t need to go as far as moving abroad to inject some adventure into your life. Start smaller if you like, and if you’re worried about money, explore these ways to travel the world for free.

10. Take Care of Yourself Physically

Once when I was going through a depressive period, my father told me to do three things: get eight hours of sleep every night, eat healthier, and work out every day. “Go through the motions of being healthy, and one of these days you’ll wake up and realize you feel better both physically and emotionally.” As usual, he was right.

Your body and mind form a feedback loop. One of the easiest ways to jumpstart an emotionally healthier loop is to force yourself into a physically healthier routine.

It doesn’t have to cost you more money. You can eat healthy on a budget, and work out at home with no expensive equipment or gym memberships. Neither do you need expensive or habit-forming sleep aids, with all the natural sleep remedies available.

Finally, consider quitting drinking. Alcohol is expensive, both in terms of your wallet and your health. Worst of all, it correlates strongly with depression: everything in your life looks worse after you’ve been drinking.

As a byproduct of living healthier, you might just find you feel younger, too.

11. Volunteer More

How many hours do you volunteer each month?

Countless studies show that volunteering improves personal happiness levels, lowers rates of depression, and generally boosts our sense of well-being — see this study from BMC Public Health for an example.

That says nothing of all the unselfish reasons to volunteer like, say, giving back to the world.

There are plenty of ways to volunteer locally, but if you want to combine volunteering with travel, try out these ideas to volunteer abroad for free travel.


Final Word

Less than a year ago, I was clinking giant steins at Oktoberfest. Today I have a baby and have crossed into my 40s. I’ve spent more than a few nights wondering what happened to the excitement of my younger days.

Middle-aged adults can find comfort in research from the Institute for Human & Machine Cognition demonstrating a silver lining to midlife crises. Most people who experience them come out the other side with a greater sense of curiosity about the world around them — and where they fit into it. Armed with a better understanding of themselves and their place in the world, middle-aged adults emerge more thoughtful, worldly, and compassionate than their younger selves.

As fun as it is to be young and fit and glamorous, growing wiser and wealthier with age comes with its own rewards. If the price you pay for them is letting go of the trappings of youth, just remember you’re going to lose them regardless. You might as well relinquish them gracefully, and embrace the perks of more mature adulthood.

Source: moneycrashers.com

Readers Find Some Weird Winners

Bond rates are plunging, banks pay next to nothing, and stocks are so rich that the S&P 500 Index yields a paltry 1.4%.

My mailbox is thus brimming with queries about offbeat, high-distribution investments. Many are leveraged funds, rely on options and futures trading, or extend high-rate loans to less-creditworthy borrowers. Some augment regular income payments with periodic returns of capital.

That is tolerable when a fund manufactures enough trading profits or capital gains to cover these emoluments. But returned capital does not count as “yield” and is not a dividend. (It does postpone a possible capital gains tax bill.)

Which of this high-test stuff is safe and timely?

Generally, I am all-in on striving for extra yield, evidenced by the strong multiyear returns in high-yield corporate and municipal bonds, preferred stocks, most leveraged closed-end bond and income funds, and pipeline and infrastructure partnerships. These are all straightforward and understandable.

But the income marketplace is also full of gadgets and thingamajigs, so when Richard writes in to extol Credit Suisse X-Links Silver Shares Covered Call ETN (SLVO), or Steve asserts that Guggenheim Strategic Opportunities Fund (GOF) “seems too good to be true,” or Thomas wonders how I have overlooked Cornerstone Strategic Value Fund (CLM) when it “pays a monthly dividend” at an annual rate of 16.2%, I need to evaluate each idea individually. Most of the time, I find flaws, such as high fees or madcap trading. But sometimes oddities have their day – or days – of glory.

Triple Play

Of late, this reader-chosen trifecta is successful, even stunningly so.

SLVO, which is linked to a silver index and sells covered call options on that index for income, has a one-year return of 24.6%. Because silver is rampaging, the value of the call options SLVO sells is way up, and so it has issued monthly distributions of 11 cents to 20 cents so far in 2021. That’s a pace above 20% annualized, based on the July 9 closing price of $6. But I would never count on anything linked to gold or silver for essential income.

Guggenheim Strategic, a leveraged junk-bond fund, has a one-year return of 43.0% and pays $2.19 annually on a $22 share price. About 60% of that is returned capital, but there is enough actual income to yield 3.9%. Cornerstone Strategic, which owns stocks ranging from Amazon.com (AMZN) and Apple (AAPL) to small-company shares, as well as some closed-end funds, has a 33.9% one-year total return, mostly capital gains. The income layer of its fixed monthly distribution is only 1.6%. Thomas, the rest of your cash inflows are returned capital or trading gains.  

Guggenheim and Cornerstone, like so many closed-ends, owe much of their good fortune to the ascension of their share price to a high premium over the value of their underlying assets. Neither fund has a great long-term performance record, but kudos to readers who sussed out these or similar opportunities a year ago, when premiums were small or shares traded at a discount. There is a reasonable argument that it is wiser to pick up a mediocre CEF at a cheap price than a good fund that trades at a premium.

Not every unusual income fund is a winner. Another reader named Richard bragged on IVOL, the Quadratic Interest Rate Volatility and Inflation Hedge ETF. Rates are volatile and inflation hedges are in vogue, so this fund sounds exactly right. But its fortunes depend on the use of derivatives to profit from market stress. That is hard to sustain. After a strong debut in 2020, IVOL has a total return of 1.1% for 2021 through July 9 and has lost 3% in the past two months. It might be too much of a contraption to work over time.

Source: kiplinger.com

How to Play the High-Yield Rally

High-yield bonds have been on a roll. Over the past 12 months, funds that invest in junk-rated debt – credit rated double-B to triple-C – have gained 14%, on average, more than any other bond-fund category. As a result, investors have poured more money into high-yield bond funds in the first half of 2021 than in all of 2020.

That might make you wary. But investors with a long-term view should consider Metropolitan West High Yield Bond (MWHYX). The fund’s managers run it with a full market cycle in mind. They’re conservative, they like a bargain, and they let bond prices and the difference between yields in junk bonds and Treasuries – known as the spread – influence when to dial up or pull back on risk.

When prices are low and spreads are high, the managers take on more risk. When the opposite is true, they reduce risk.

“We try to insulate the fund from downdrafts by being more conservative” when prices are high, says co-manager Laird Landmann. Over the long haul, this approach has delivered above-average returns with below-average volatility.

These days the percentage of junk bonds that trade cheaply (below 90 cents on the dollar) is less than 1.5%, the lowest it has been over the past 20 years. Current spreads between junk bonds and Treasuries, about three percentage points, are near decade lows, too.

Time for Caution

That has the fund managers on the defensive. Bank loans now make up about 18% of the fund’s assets – a “max positioning” for the fund, says co-manager Jerry Cudzil. These securities have seniority in the capital structure – they get paid first – and interest rates that adjust in line with a short-term benchmark.

The managers have also shifted into more defensive industries, such as cable, food and beverage, and managed health care. “Today, you’re not being compensated to take on more risk,” says Cudzil. “These sectors will experience less volatility from an earnings perspective.”

The fund’s 8.3% three-year annualized return ranks among the top 8% of all high-yield bond funds. It was one-third less volatile than its peers over that stretch, too.

chart of high-yield bond funds, including Metropolitan West High Yield Bondchart of high-yield bond funds, including Metropolitan West High Yield Bond

Source: kiplinger.com

Income-Driven Repayment Plans for Federal Student Loans – Guide

According to first-quarter data released in May 2021 by the Federal Reserve Bank of New York, student loans are now the second-largest source of consumer debt, outpacing both credit card and car loan debt and second only to mortgage debt. And for many Americans, that debt has become unmanageable. According to CNBC, more than 1 million borrowers default on their student loans every year. And the nonprofit public-policy research organization Brookings expects up to 40% of all borrowers to go into default before 2023.

Unfortunately, defaulting on student loans can have dire consequences, including wage garnishment and destruction of your credit, making it nearly impossible to get another loan — private or federal.

Fortunately, there are multiple repayment options for federal student loan borrowers, including deferment and forbearance, student loan consolidation, and income-driven repayment (IDR) plans. If your federal student loan payments exceed your monthly income or are so high it’s difficult to afford basic necessities, you can lower your monthly student loan payment by taking advantage of one of the various IDR plans.

Pro Tip: If you have private student loans, the federal options are unavailable to you. But you can refinance them through Credible to earn a $750 bonus exclusive to Money Crashers’ readers. Learn more about refinancing through Credible.

How Income-Driven Repayment Plans Work

The default repayment schedule for federal student loans is 10 years. But if you have a high debt balance, low income, or both, the standard repayment plan probably isn’t affordable for you.

But if your payments are more than 10% of your calculated discretionary income, you qualify for the federal definition of “partial financial hardship.” That makes you eligible to have your monthly payments reduced.

That’s where IDR plans come in. Instead of setting payments according to your student loan balance and repayment term length, IDR plans set them according to your income and family size. Even better, if you have a balance remaining after completing your set number of payments, your debt may be forgiven.

These plans are beneficial for graduates right out of school who are not yet employed, are underemployed, or are working in a low-salary field. For these graduates, their paychecks often aren’t enough to cover their monthly student loan payments, and IDR means the difference between managing their student loan debt and facing default.

How IDR Plans Calculate Your Discretionary Income

IDR plans calculate your payment as a percentage of your discretionary income. The calculation is different for every plan, but your discretionary income is the difference between your adjusted gross income (AGI) and a certain percentage of the poverty level for your family size and state of residence.

Your AGI is your annual income (pretax) minus certain deductions, like student loan interest, alimony payments, or retirement fund contributions. To find the federal poverty threshold for your family size, visit the U.S. Department of Health and Human Services.

Using these guidelines, some borrowers even qualify for a $0 repayment on an IDR plan. That’s hugely beneficial for people dealing with unemployment or low wages. It allows them to stay on their IDR plan rather than opt for deferment or forbearance.

And there are two good reasons to take that option. Unless it’s an economic hardship deferment, which is limited to a total of three years, time spent in forbearance or deferment doesn’t count toward your forgiveness clock. However, any $0 repayments do count toward the total number of payments required for forgiveness.

Additionally, interest that accrues on your unsubsidized loans during periods of deferment and on all your loans during a forbearance capitalizes once the deferment or forbearance ends. Capitalization means the loan servicer adds interest to the principal balance. When that happens, you pay interest on the new higher balance — in other words, interest on top of interest.

But with IDR, if you’re making $0 payments — or payments that are lower than the amount of interest that accrues on your loans every month — most plans won’t capitalize any accrued interest unless you leave the program or hit an income cap. The income-contingent repayment plan (a type of IDR) is the sole exception. It capitalizes interest annually.

Student Loan Forgiveness

Any of your student loans enrolled in an IDR program are eligible for student loan forgiveness. Forgiveness means that if you make the required number of payments for your IDR plan and you have any balance remaining at the end of your term, the government wipes out the debt, and you don’t have to repay it. For example, let’s say your plan requires you to make 240 payments. After doing so, you still have $30,000 left on your loan. If you’re eligible for forgiveness, you don’t have to repay that last $30,000.

There are two types of forgiveness available to those in an IDR program: the basic forgiveness available to any borrower enrolled in IDR and public service loan forgiveness (PSLF).

Public Service Loan Forgiveness

The PSLF program forgives the remaining balance of borrowers who’ve made as few as 120 qualifying payments while enrolled in IDR. To qualify, borrowers must make payments while working full-time for a public service agency or nonprofit. Public service includes doctors working in public health, lawyers working in public law, and teachers working in public education, in addition to almost any other type of government organization at any level — local, state, and federal. Nonprofits include any organizations that are tax-exempt under Section 501(c)(3) of the Internal Revenue Code. They do not include labor unions, partisan political organizations, or government contractors working for profit.

PSLF can potentially benefit those required to have extensive education to work in low-income fields, like teachers. Unfortunately, it’s notoriously difficult to get. According to Insider, the program is still rejecting 98% of applicants after an ongoing history of rejecting borrowers who believed they qualified but weren’t granted forgiveness.

But there may be hope. In May 2021, the Biden administration announced ongoing plans to review and overhaul all the federal student loan repayment, cancellation, discharge, and forgiveness programs, including public service loan forgiveness, to better benefit borrowers, according to Insider.

For the best chance at receiving PSLF, the ED recommends you fill out an employment certification form annually and every time you change jobs. Additionally, once you reach 120 qualifying payments, you must complete a PSLF application to receive the forgiveness.

IDR Loan Forgiveness

For all other IDR borrowers, each program requires them to make a set number of payments — from 240 to 300 — before they qualify to have their loan balances forgiven. At this time, because the program isn’t yet 20 years old and no borrowers have qualified, there is no specific application process for student loan forgiveness.

According to the ED, your loan servicer tracks your number of qualifying payments and notifies you when you get close to the forgiveness date. No one yet knows if there will be a standard application form or if it will be automatic. Hopefully, as the program reaches the age when borrowers can start using the benefit, the process will become standardized.

Drawbacks to Forgiveness

Forgiveness is one of the biggest advantages of IDR, especially for borrowers with high balances relative to their income. But there are pros and cons of standard student loan forgiveness. First, while forgiveness sounds like it could be a significant financial benefit, the reality is after making 20 to 25 years of IDR payments, the average borrower doesn’t have any balance remaining to forgive.

And if the government does forgive your balance, the IRS counts that as income, which means you have to pay income taxes on the amount forgiven. If you have a high balance remaining and can’t pay your taxes in full, that means making multiple additional payments — this time to the IRS — just when you thought you were finally done with your student loans.

The American Rescue Plan Act of 2021, signed into law by President Joe Biden on March 11, 2021, makes a crucial change to this student loan policy. According to Section 9675, borrowers receiving a discharge of their student loans no longer have to pay income tax on any balances forgiven through Dec. 31, 2025.

That won’t help most borrowers currently enrolled or who plan to enroll in IDR. The first to become eligible for forgiveness only did so in 2019 — those who’ve been enrolled in income-contingent repayment since its beginning in 1994, as noted by the National Consumer Law Center. But some experts believe this change could become permanent, according to CNBC.

Note that balances forgiven through PSLF are always tax-exempt.

What Loans Are Eligible for IDR?

You can only repay federal direct loans under most IDR plans. But if you have an older federal family education loan (FFEL), which includes Stafford loans, or federal Perkins loan — two now-discontinued loan types — you can qualify for these IDR plans by consolidating your student loans with a federal direct consolidation loan.

Note, however, that consolidation is not the right choice for all borrowers. For example, if you consolidate a federal Perkins loan with a direct consolidation loan, you lose access to any Perkins loan forgiveness or discharge programs. Further, if you consolidate a parent PLUS loan with any other student loans, the new consolidation loan becomes ineligible for most IDR plans.

Private financial institutions have their own programs for repayment. But they aren’t eligible for any federal repayment program.


4 Types of Income-Driven Repayment Plans

There are four IDR plans for managing federal student loan debt. They all let you make a monthly payment based on your income and family size. But each differs according to who’s eligible, how your loan servicer calculates your payments, and how many payments you have to make before you qualify for forgiveness.

If you’re married, some calculations can depend on your spouse’s income if you file jointly. Because you can lose some tax benefits if you file separately, consult with a tax professional to see whether married filing jointly or married filing separately is more advantageous for your situation.

Regardless of your marital status, each IDR plan works differently. Your loan servicer can help you choose the plan that’s best for you. But it’s essential you understand the features, pros, and cons of each IDR type.

1. Income-Based Repayment Plan

Income-based repayment plans (IBRs) are likely the most well-known of all the IDR plans, but they’re also the most complicated. Depending on when you took out your loans, your monthly payment could be a more substantial chunk of your discretionary income than for newer borrowers, and you could have a longer repayment term. On the other hand, unlike some other IDR plans, this one has a favorable payment cap.

  • Monthly Payment Amount: You must pay 15% of your discretionary income if you were a new borrower before July 1, 2014, and 10% if you borrowed after that date. If the amount you’re required to pay is $5 or less, your payment is $0. If the repayment amount is more than $5 but less than $10, your payment is $10. If you’re married and your spouse owes any student loan debt, your payment amount is adjusted proportionally.
  • Discretionary Income Calculations: For IBR, discretionary income is the difference between your AGI and 150% of the poverty level for your family’s size and state of residence. Your loan servicer includes spousal income in this calculation if you’re married filing jointly. They don’t include it if you’re married filing separately.
  • Payment Cap: As long as you remain enrolled in IBR, your payment will never be more than you’d be required to pay on the 10-year standard repayment plan, regardless of how large your income grows.
  • Federal Loan Interest Subsidy: If your monthly payments are less than the interest that accrues on your loans, the government pays all the interest on your subsidized loans — including the subsidized portion of a direct consolidation loan — for up to three years. It doesn’t cover any interest on unsubsidized loans.
  • Interest Capitalization: If your monthly payments are no longer tied to your income — meaning your income has grown so large you’ve hit the payment cap — your servicer capitalizes your interest.
  • Repayment Term: If you borrowed any student loans before July 1, 2014, you must make 300 payments over 25 years. If you were a new borrower after July 1, 2014, you must make 240 payments over 20 years.
  • Eligibility: To qualify, you must meet IBR’s criteria for partial economic hardship: The annual amount you must repay on a 10-year repayment schedule must exceed 15% of your discretionary income. If you’re married and filing jointly and your spouse owes any student loan debt, your loan servicer includes this debt in the calculation. IBR excludes only the parent PLUS loans from eligibility.
  • Forgiveness: Your remaining loan balance is eligible for forgiveness after you make 20 or 25 years of payments, depending on whether you borrowed before or after July 1, 2014.

2. Pay-as-You-Earn Repayment Plan

The pay-as-you-earn (PAYE) plan is possibly the best choice for repaying your student loans — if you qualify for it. It comes with some benefits over IBR, including a potentially smaller monthly payment and repayment term, depending on when you took out your loans. It also has a unique interest benefit that limits any capitalized interest to no more than 10% of your original loan balance when you entered the program.

  • Monthly Payment Amount: You must pay 10% of your discretionary income but never more than you would be required to repay on the standard 10-year repayment schedule. If the amount is $5 or less, your payment is $0. If the amount is more than $5 but less than $10, you pay $10. If you’re married and your spouse owes any student loan debt, your payment amount is adjusted proportionally.
  • Discretionary Income Calculations: For PAYE, your servicer calculates discretionary income as the difference between your AGI and 150% of the poverty line for your state of residence. If you’re married and file jointly, they include your spouse’s income in the calculation. They don’t include it if you file separately.
  • Payment Cap: As with IBR, as long as you remain enrolled, payments can never exceed what you’d be required to repay on a standard 10-year repayment schedule, regardless of how large your income grows.
  • Federal Loan Interest Subsidy: If your monthly payments are less than the interest that accrues on your loans, the government pays all the interest on your subsidized loans for up to three years. It doesn’t cover any interest on unsubsidized loans.
  • Interest Capitalization: If your income has grown so large you’ve hit the payment cap, your servicer capitalizes your interest. But no capitalized interest can exceed 10% of your original loan balance.
  • Repayment Term: You must make 240 payments over 20 years.
  • Eligibility: To qualify, you must meet the plan’s criteria for partial financial hardship: the annual amount due is greater than 10% of your discretionary income. If you’re married and filing jointly and your spouse owes any student loan debt, this debt is included in the calculation. Additionally, you can’t have any outstanding balance remaining on a direct loan or FFEL taken out before Sept. 30, 2007. You must also have taken out at least one loan after Sept. 30, 2011. All federal direct loans are eligible for PAYE except for parent PLUS loans.
  • Forgiveness: As long as you stay enrolled, you remain eligible for forgiveness of your loan balance after 20 years of payments if any balance remains.

3. Revised Pay-as-You-Earn Repayment Plan

If you don’t meet the qualifications of partial financial hardship under PAYE or IBR, you can still qualify for an IDR plan. The revised pay-as-you-earn (REPAYE) plan is open to any direct federal loan borrower, regardless of income. Further, your payment amount and repayment terms aren’t contingent on when you borrowed. The most significant benefits of REPAYE are the federal loan interest subsidy and lack of any interest capitalization.

However, there are some definite drawbacks to REPAYE. First, there are no caps on payments. How much you must pay each month is tied to your income, even if that means you have to make payments higher than you would have on a standard 10-year repayment schedule.

Second, those who borrowed for graduate school must repay over a longer term before becoming eligible for forgiveness. That’s a huge drawback considering those who need the most help tend to be graduate borrowers. According to the Pew Research Center, the vast majority of those with six-figure student loan debt borrowed it for graduate school.

  • Monthly Payment Amount: You must pay 10% of your discretionary income. If the amount you must pay is $5 or less, your payment is $0. And if the repayment amount is more than $5 but less than $10, your payment is $10. If you’re married and your spouse owes any student loan debt, your payment amount is adjusted proportionally.
  • Discretionary Income Calculations: Your discretionary income is the difference between your AGI and 150% of the poverty line for your state of residence. If you’re married, they include both your and your spouse’s income in the calculation, regardless of whether you file jointly or separately. However, if you’re separated or otherwise unable to rely on your spouse’s income, your servicer doesn’t consider it.
  • Payment Cap: There is no cap on payments. The loan service always calculates your monthly payment as 10% of your discretionary income.
  • Federal Loan Interest Subsidy: If your monthly payment is so low it doesn’t cover the accruing interest, the federal government pays any excess interest on subsidized federal loans for up to three years. After that, they cover 50% of the interest. They also cover 50% of the interest on unsubsidized loans for the entire term.
  • Interest Capitalization: As long as you remain enrolled in REPAYE, your loan servicer never capitalizes any accrued interest.
  • Repayment Term: You must make 240 payments over 20 years if you borrowed loans for undergraduate studies. If you’re repaying graduate school debt or a consolidation loan that includes any direct loans that paid for graduate school or any grad PLUS loans, you must make 300 payments over 25 years.
  • Eligibility: Any borrower with direct loans, including grad PLUS loans, can make payments under this plan, regardless of income. If you have older loans from the discontinued FFEL program, they are only eligible if consolidated into a new direct consolidation loan. Parent PLUS loans are ineligible for REPAYE.
  • Forgiveness: As long as you remain enrolled, your loans are eligible for forgiveness after 20 years of payments for undergraduate loans or 25 years for graduate loans.

4. Income-Contingent Repayment Plan

The income-contingent repayment plan (ICR) is the oldest of the income-driven plans and the least beneficial. Your monthly payments are higher under ICR than any other plan, and you must make those payments over a longer term. Additionally, although they limit the amount of capitalized interest, it’s automatically capitalized annually whether you remain in the program or not.

There is one major plus: Parent PLUS loans are eligible. But you must still consolidate them into a federal direct consolidation loan to qualify.

  • Monthly Payment Amount: You must pay the lesser of 20% of your discretionary income or what you would pay over 12 years on a fixed-payment repayment plan. If you’re married and your spouse also has eligible loans, you can repay your loans jointly under the ICR plan. If you go this route, your servicer calculates a separate payment for each of you that’s proportionate to the amount you each owe.
  • Discretionary Income Calculations: For ICR, your servicer calculates discretionary income as the difference between your AGI and 100% of the federal poverty line for your family size in your state of residence. If you’re married filing jointly, your servicer uses both your and your spouse’s income to calculate the payment size. If you’re married filing separately, they only use your income.
  • Payment Cap: There is no cap on payment size.
  • Federal Loan Interest Subsidy: The government doesn’t subsidize any interest.
  • Interest Capitalization: Your servicer capitalizes interest annually. However, it can’t be more than 10% of the original debt balance when you started repayment.
  • Repayment Term: You must make 300 payments over 25 years.
  • Eligibility: Any borrower with federal student loans, including direct loans and FFEL loans, is eligible for ICR. For parent PLUS loans to qualify, you must consolidate them into a federal direct consolidation loan.
  • Forgiveness: As long as you remain enrolled, your loans are eligible for forgiveness after 25 years of payments.

How to Apply for Income-Driven Repayment Plans

To enroll in an IDR plan, contact your student loan servicer. Your servicer is the financial company that manages your student loans and sends your monthly bill. They can walk you through applying for IDR and recommend the most beneficial plan for your unique situation. You must complete an income-driven payment plan request, which you can fill out online at Federal Student Aid or use a paper form your servicer can send you.

Because your servicer ties payments on any IDR plan to your income, they require income information. You must submit proof of income after you complete your application. Proof of income is usually in the form of your most recent federal income tax return. Have this handy when applying over the phone. They also need your AGI, which you can find on your tax return. You must also mail or fax a copy of your return before your application is complete.

It generally takes about a month to process an IDR application. If you need them to, your loan servicer can place your loans into forbearance while they process your application. You aren’t required to make a payment while your loans are in forbearance. But interest continues to accrue, which results in a larger balance.

You can change your student loan repayment plan or have your monthly payments recalculated at any time. If an IDR plan is no longer advantageous to you, you lose your job, you switch jobs, or there’s a change in your family size, contact your student loan servicer to either switch your repayment plan or have your monthly payments recalculated.

You aren’t obligated to do so if the change would result in higher monthly payments. However, you must recertify each year.

Recertification

You must recertify your income and family size annually by providing your student loan servicer with a copy of your annual tax return. You must recertify even if there are no changes in your family size or income.

Loan servicers send reminder notices when it’s time to recertify. If you don’t submit your annual recertification by the deadline, your loan servicer disenrolls you, and your monthly payment reverts to what it would be on the standard 10-year repayment schedule.

You can always reenroll if you miss your recertification deadline. But there are a couple of reasons not to be lax about recertification.

First, if your income increases to the point at which your monthly payment would be higher than it would be on the standard 10-year repayment schedule, you can’t requalify for either the PAYE or IBR plans. But if you stay in the program, your payments are capped no matter how much your income increases.

Second, if you’re automatically disenrolled from your IDR plan because of a failure to recertify, any interest that accrues during the time it takes to get reenrolled is capitalized. That means your servicer adds interest to the balance owed. Even after you reenroll in your IDR plan, you begin earning interest on the new capitalized balance, thereby increasing the amount owed. And that’s true even if you place your loans into a temporary deferment or forbearance.


How to Choose an IDR Plan

The easiest way to choose the best IDR plan is to discuss it with your loan servicer. They can run your numbers, tell you which plans you qualify for, and quote you monthly payments under each plan.

Don’t just choose the plan with the lowest monthly bill unless you can’t afford a higher payment. Instead, balance your current needs with the long-term costs of any plan. For example, one plan might offer a lower monthly payment but a longer repayment term. Further, although your interest rate remains fixed on all the IDR plans, some offer benefits like interest subsidies that can reduce the overall amount you must repay.

Even if you think you’ll qualify for PSLF, which could get you total loan forgiveness in as little as 10 years, it’s still worth it to weigh your options. Currently, too few borrowers qualify for PSLF, so it might not work out to pin your hopes on it until the program becomes more streamlined.

Note that IDR plans aren’t suitable for everyone. Before enrolling in any IDR plan, plug your income, family size, and loan information into the federal government’s loan simulator. The tool gives you a picture of your potential monthly payments, overall amount to repay, and any balance eligible for forgiveness.


Final Word

If you’re struggling to repay your student loans or facing the possibility of default, an IDR plan probably makes sense for you. But they aren’t without their drawbacks. It pays to research all your options, including the possibility of picking up a side gig to get those student loans paid off faster.

Student loan debt can be a tremendous burden, preventing borrowers from doing everything from saving for a home to saving for retirement. The faster you can get rid of the debt, the better.

Source: moneycrashers.com

How to Approach Your Landlord If You Can’t Pay Rent Next Month

If you’ve been out of work and can’t pay rent, the end of the federal moratorium on evictions is guaranteed to dredge up a ton of stress. But now’s not the time to bury your head in the sand.

By exercising your negotiation muscle, you may be able to strike a deal with your landlord that prevents the worst-case scenario: getting kicked out of your home.

Negotiating a Deal With Your Landlord If You Can’t Pay Rent

When you think you can’t pay rent for the upcoming month, it’s best to talk to your landlord sooner rather than later. Even if you’ve been letting late payment notices stack up, coming to a fair agreement with your landlord can help alleviate some of that financial stress.

Here’s what you should do.

First, Know Your Rights

Matt Koz, finance director for the Tenant Resource Center in Madison, Wisc., recommends that renters do their due diligence to research the eviction laws in their area and see if their city, county or state has a moratorium on eviction proceedings during the pandemic.

There may be an eviction moratorium in your local area that extends past the federal moratorium. For example, New York City’s rental eviction moratorium is in place through the end of August.

Being educated about the tenant laws in your state doesn’t just give peace of mind about whether or not your landlord can evict you during this crisis. It can also help you decide how to best proceed when reaching out to your landlord.

For example, Koz said there could be laws where you live that make it disadvantageous to pay partial rent, if you were thinking of suggesting that to your landlord.

“In some cases, it may be better not to offer terms and wait to see what recourse is available to you,” he said.

Approach Your Landlord with Empathy

You may just think of your landlord as a faceless entity that takes the biggest single chunk of your money every month. But a little kindness can go a long way.

“Lead with empathy,” advises Michael Thomas, an accredited financial counselor and faculty member at the University of Georgia. “It’s very easy to become self-absorbed when we’re experiencing a financial shock.”

He says taking the time out to ask how your landlord is doing and working to establish a relationship can make them more willing to work with you. Understanding where each person is coming from can lead to a resolution that’s best for both parties.

Provide Realistic Solutions

Offering up a solution to your situation can show your willingness to work with your landlord.

You might propose to make a partial payment with a promise to pay the remainder of the rent by a certain date. If you don’t know when you’d be able to make the remaining payment, Koz said it’s reasonable to make an agreement based upon a specific occurrence.

For example, you might ask if you can pay the remainder once your kids’ school starts and you can pick up more hours at work.

Instead of suggesting a partial payment, you could ask to skip paying for one month and spread that payment over the remainder of your lease if you think you’ll be able to pay the following month. Or you could negotiate for an overall reduction in rent given that you sign a new lease locking you in for a longer term.

Another option: Ask your landlord to apply your security deposit to the upcoming rent payment, agreeing to replace it at a later date. Or if you paid your last month’s rent upfront when you first signed your lease, you could ask to apply that money to next month’s rent.

Pro Tip

When trying to come up with a rent solution for the upcoming month, make sure you’re not creating a worse financial situation for yourself later on.

Something else you might consider is bartering. For example, you could agree to do landscape work for your landlord’s properties in exchange for a break on rent.

When trying to strike a deal, Thomas suggests coming up with at least three plausible solutions that work for your budget.

“Go with your best-case scenario first,” he said.

If your landlord won’t agree to that, ask for their input on mitigating the situation before presenting your other options.

Get Agreements in Writing

If you and your landlord are able to agree on an alternative plan for paying rent, make sure to get that deal in writing.

“If [your landlord] were to come back and say we didn’t agree to that, [you can say]: Actually we did and here’s proof,” said Pamela Capalad, a New York-based Certified Financial Planner and founder of Brunch and Budget.

Putting things in writing also helps eliminate misinterpretations of your agreement, she said.

However, when signing a lease addendum or other paperwork, don’t rush into a contract with terms you don’t understand.

“If you’re not sure what you’re signing, you can always try to contact a tenants rights organization or an attorney,” Koz said. “Whatever you sign is something that you’re held to. If you don’t meet the terms of that agreement, you’re back where you started.”

Remember, You’re Not Alone

You may experience shame over not paying rent or fear over potentially losing your home, but try not to let that lead you to making drastic decisions.

“The thing I would recommend, if you can avoid it, is to not take out loans to pay rent,” Capalad said.

It can be comforting to put things in perspective and realize you’re not the only one who can’t pay your rent right now, she said.

4 Additional Solutions If You Can’t Pay Rent

In the event that your landlord won’t budge on requiring you to pay your rent in full, it’s good to have a backup plan. Here are a few ideas.

1. Seek Housing Assistance

Look into local housing assistance or eviction prevention programs for emergency funding to help keep you in your home.

The United Way’s 211 network is a great way to connect to resources in your community. Other charities, like Modest Needs, may also be able to help. Your landlord may even know of housing assistance options in your area.

2. Bring In a Roommate

If you can find a good roommate, you can split housing expenses and lower your financial obligation. Just make sure you properly vet the potential roommate and your landlord approves of the new tenant.

Subleasing your place could be another route to take, provided your landlord allows it and you have somewhere else you can crash in the meantime.

3. Sell Something

Make some extra dough by selling unwanted items around your home. Put that money toward the rent.

You can even make sales while practicing social distancing. Check out these 14 websites for selling things online.

4. Get Another Gig

Get money for rent by landing a new job — or securing a second source of income.

Consider a side gig, like a food delivery driver or a pet sitter, where you’re paid based on how much work you take on. These jobs often pay faster than traditional jobs that run on a biweekly schedule.

Many retailers and restaurants are hiring to make up for a shortage of workers. Some are even offering sweet sign-on bonuses.

Now is also a great time to find a job where you can work remotely. There are several gigs that are perfect for doing virtually, like freelance writing. Check out The Penny Hoarder’s work-from-home job portal for new job opportunities posted every weekday.

Feeling overwhelmed? Create a budget that works for you with our budgeting bootcamp!

Nicole Dow is a senior writer at The Penny Hoarder.

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Source: thepennyhoarder.com

What is APR? Info and Tips on Lowering Annual Percentage Rates

From credit cards to mortgages, APRs can be one of the most confusing aspects of securing a loan. While monthly or annual interest is rather straightforward, APRs encompass extraneous fees that aren’t immediately obvious. A higher APR can significantly affect how much money you owe, so isn’t it time to wrap your head around this slippery concept? Let’s take a closer look.

Have a specific question in mind? Use the links below to jump straight to what you want to know:

APR Definition

APR stands for “Annual Percentage Rate” and represents the rate of interest you’ll pay when you take out a loan. This could include closing costs, mortgage insurance, and any other expense associated with borrowing money. Essentially, it helps you understand how expensive it will be to take out a certain loan. The APR indicates some of the fees associated with the loan as an interest rate so you know what to expect in the long term life of the loan.

Let’s break it down even further. When taking out a mortgage, car loan, or any other non-credit card loan, the interest rate and APR are defined as two separate amounts. The interest rate refers to the percentage you’ll pay on a monthly or annual basis to borrow the money loaned to you. APR refers to the full cost per year of borrowing the money, averaged over the full term of the loan. Typically, the additional fees included in an APR are added to the principal loan balance and accrue interest over the term of the loan.

It’s common for borrowers to get enticed by low monthly interest rates when they go loan shopping. Who wouldn’t choose a 5% interest rate over a 10% interest rate? But if the loan with 5% interest has a high APR, that signals there are additional expenses associated with the loan that could actually make it a more expensive choice. With a higher APR, your annual interest payments will increase since all these extra fees you have to pay are tacked onto your original loan amount.

However, the terms of APRs vary depending on what type of money loan you’re taking out. Remember all those pre-approved credit card offers you get in the mail? You’ve probably seen the envelopes advertising 0% introductory APR as a way to entice you to sign up. The APR and interest rate are the same percentage for a line of credit because there typically aren’t any additional fees associated with opening a credit card. Even if you pay an annual fee or extra late fees, companies aren’t allowed to include those in the APR.

So to recap, when does APR really matter? Whenever you take out a loan that is not a revolving line of credit. Houses and cars are the most common example of when you’ll be tasked with sifting through various APR offers. Remember, APRs give a fuller picture of what you’ll pay in interest and associated fees in addition to the principal amount of money you’re borrowing.

How to Calculate APR

Under the Truth in Lending Act, lenders are required to display APRs so borrowers can easily compare rates while searching for a loan or credit card. Even though APRs should be clearly stated on all documents related to the loan, it’s still helpful to know exactly how they’re calculated.

Investopedia uses this example to explain how APR is calculated for a mortgage:

“If you were considering a mortgage for $200,000 with a 6% interest rate, your annual interest expense would amount to $12,000, or a monthly payment of $1,000. But say your home purchase also requires closing costs, mortgage insurance, and loan origination fees in the amount of $5,000. In order to determine your mortgage loan’s APR, these fees are added to the original loan amount to create a new loan amount of $205,000. The 6% interest rate is then used to calculate a new annual payment of $12,300. Divide the annual payment of $12,300 by the original loan amount of $200,000 to get an APR of 6.15%.”

What is Variable APR?

As you compare APRs, you’re guaranteed to see fixed APRs and variable APRs. The difference between the two options is rather simple: fixed APR is a percentage rate that does not fluctuate, while variable APR may change in relation to an index interest rate. The index your APR is based on can vary depending on the type of loan and the lender, but the Prime Rate drafted in the Wall Street Journal is one of the most common. This rate acts as a base number, and additional percentage points are added onto your APR from there depending on factors such as your creditworthiness, lender fees, etc.

The appeal of a variable APR comes with the idea that if the index decreases, so will your APR. For the past few years, the Prime Rate has increased steadily by .25% each quarter. Whether you choose a fixed APR or variable APR depends entirely upon personal circumstances and whether you are comfortable with the possibility of your loan payment fluctuating.

APR for Credit Cards

As we mentioned earlier, a credit card’s interest rate and APR are interchangeable terms. If you don’t pay off your debt every month and carry over a balance, you will be charged a percentage of that balance in addition to the total amount you owe. That percentage is the interest rate (or APR) and does not include any additional fees. Typically, credit cards will have a range of different APRs based on your creditworthiness. It’s crucial to read the fine print of a contract before signing up for a credit card because you may find yourself paying far more than the introductory APR offering.

Another common phrase you’ll see when applying for a new credit card is “prime rate.” Cards with a variable APR—one that can fluctuate throughout the life of the line of credit—often use the Prime Rate as a benchmark from which to set their APRs.

Types of Credit Card APRs

Depending on how you use your credit card, you might run into various types of APRs with different percentages. Make sure to take a look at all the different rates to ensure you won’t get hit with a payment that will take a significant financial toll.

Purchase APR

This rate is the standard APR that applies to all the purchases you make on your card if you don’t pay off your debt by the monthly due date.

Penalty APR

This rate could apply if your payment is more than 60 days past due or a payment has been returned. Be aware that these are typically higher than your purchase APR.

Cash Advance APR

This rate can come into play when you use your credit card to withdraw cash from an ATM or cash a credit card check. These usually are higher than purchase APRs and apply immediately to the transaction without a grace period.

Balance Transfer APR

Depending on your credit card, you may be able to get a balance transfer APR for a low rate or even a rate of 0%. However, many cards still carry a significant balance transfer APR. This applies to any balance you transfer from another card onto your current credit card.

How to Lower Your Credit Card APR

Despite credit card APRs being rather straightforward, it’s never a bad idea to try and negotiate the lowest percentages that you can. A study from the United States Public Interest Research Group found that 56% of consumers who called their credit card companies hung up the phone with a lower APR. However, there are risks involved when you ask for a lower APR. Your bank or credit card company may take another look at your account, and if they don’t like what they see, your line of credit has the potential to get docked as it could require a hard credit pull. Before you get on the phone, make sure you’re prepared with the proper material.

Know Your Credit

Before making any requests to change your APR, make sure you know where your credit score stands. Do you have any late payments? Any recent credit applications? How about high debt-to-credit ratios? You’re allowed to order a free copy of your credit report once a year from each of the three credit bureaus, or can get a bigger-picture look at your credit health using Turbo. While a credit score of 700 or above is considered good, the higher, the better. The higher your credit score and the cleaner your history, the more likely you’ll be able to negotiate a lower APR.

Gather Lower Rate Offers

A key part of the negotiation process is presenting competitive offers you’ve received from other credit cards. Translation? Show your current company that you’re serious about taking your business elsewhere if they won’t negotiate with you. Take a look at all the balance-transfer offers that are mailed to you or browse the websites of major credit card companies to find their best deals. Try to gather three to four rates that are better than your current card. Once you’re on the phone with a representative, be sure to mention these rates and how you’d prefer an APR similar to those offers.

Ask the Right Person

Persistence is key when negotiating a lower credit card APR. Call the customer service line on the back of your card and start the conversation. If the representative says they aren’t currently negotiating annual percentage rates, ask to speak to a supervisor. Sometimes, it’s all about talking to the right person. If you demonstrate to a manager your determination to get a better rate or take your business elsewhere, there’s more likely to be movement in favor of your request.

Remember, approach this conversation with a positive tone. Discuss how you’ve enjoyed your experience with this company and how your track record has proven your responsibility with handling a line of credit. Then it’s time to dive into how you could be getting better rates elsewhere but don’t want to go through the hassle of transferring balances. Even an APR reduction by a point or two could make a big difference and help you pay back your debt more quickly.

Be Prepared with Paperwork

While you’re on the phone, be sure you’re prepared to provide any additional paperwork your card issuer might want. This could include proof of income or past tax returns—any paperwork to prove that you are in a financial position to continue paying back your debt and deserve a lower APR. Even if these documents aren’t required, it’s never a bad idea to be overprepared.

How to Lower Your APR on Loans

Negotiating a lower APR for your mortgage, car loan, or other personal loan will likely take the route of refinancing instead of simply asking for a reduction. Refinancing is the process of transferring your current loan over to another lender or updating your terms with the current lender in order to take advantage of better terms and rates. A reduction in monthly payments could make a significant difference in paying off the loan or tamping down debt in other areas of your life.

Refinancing a Mortgage

Many homeowners choose to refinance their mortgages to take advantage of lower interest rates and APRs. The process typically follows these steps:

  • Determine your goals: Whether you want to switch from an adjustable-rate mortgage to a fixed-rate mortgage, tap into your home’s equity, or get a better interest rate, figure out what you’re looking for during this important financial process. Going into negotiations with a specific goal in mind will help keep conversations on track and the outcome in your favor.
  • Perform a credit check: Make sure there are no errors on your credit report that may jeopardize your ability to obtain a favorable loan. If you do find errors on your report, you can dispute them with the credit reporting bureau that provided your report to have them removed.
  • Know the value of your house: Determine your home’s current value, either through checking recent home sale prices in your neighborhood or getting an official appraisal. If your home is valued at or above the amount you want to refinance your loan for, it’s much more likely it will be approved.
  • Choose a lender: Check with the Consumer Affairs database to ensure you are refinancing through a qualified U.S. mortgage lender.
  • Shop around: Don’t choose your current lender for the refinance option alone; look at other rates you could acquire if you switch lenders.
  • Steer clear of fees: Understand what kind of fees and closing costs refinancing will require, and factor that into which offer you decide to take.
  • Lock-in your rate: Determine an interest rate that suits your needs and lock it in before closing to ensure you receive the refinancing terms you want.

Refinancing a Car

To get a lower APR on your car loan, the standard steps for refinancing include:

  • Performing a credit check: Take a look at your credit score to see if you’ll be able to qualify for a loan. A history of late payments could look like a red flag to lenders.
  • Revisiting paperwork: Read through all the terms for your current car loan and make sure you have a firm understanding of what you’re currently paying. Don’t go into a negotiation blind, otherwise, you won’t know what APR offer is better than your current APR.
  • Researching competitors: Shop around for other loans with better rates that fit your financial needs. It’s smart to leverage competing offers in order to bring the terms of your auto loan down to where you want them.
  • Applying: When you submit an application, the lender will pre-qualify you if you meet all the requirements for obtaining a loan.
  • Selecting an option: Depending on how many applications you submitted, you’ll be able to choose the refinancing option that works best for you.
  • Finalizing the refinance: Enjoy the benefits of new loan terms and APRs that help you manage your repayment schedule.

At the end of the day, understanding the APR on your loan or credit card can make a huge impact on your financial health. Negotiating a lower annual percentage rate is never an easy task, but there are tips and tricks that can make it more likely to fall in your favor. With a firm grasp on how an APR affects the repayment schedule of your loan or line of credit, reaching financial stability will be easier than ever before.

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Source: mint.intuit.com