Helping your Kids buy a Home

It is nice to help our kids buy a house. But it is equally important that we keep it “business.” If you loan them part of the downpayment or provide a loan to cover a gap in the financing, i.e. the kids come in with 20% down, take a 70% first mortgage and need 10% lent to them by the parents because the payments on an 80% first would be too much for their budget. The “Parental Second” can be creative. You can have the interest paid monthly or accrued to be paid annually. If you don’t have a payment plan and are letting the interest accrue, you can also compound the interest monthly or annually to increase your yield on the loan. Just remember that any interest earned, whether deferred or paid regularly, is regular income and subject to IRS taxation.

There is some bookkeeping to be done by Mom and Dad. The parents are required to provide their kids with a 1098 to document their interest paid so the kids may deduct the interest from their taxes.

For some parents, earning 3% or a bit more on your money is a pretty good deal considering how poor savings rates are today. Of course, your loan is in second position and, historically, loans in secondary positions usually have a greater interest rate than the first mortgage due to the greater risk accepted by the lender in second position. If a borrower defaults on the first mortgage, the holder of the second mortgage must make up the financial shortfalls on the first mortgage to make good his claim on the property. So asking for >4% is not unusual for a second mortgage. Many financial institutions are asking for prime plus one point on business loans. Wall Street Journal prime is 3.25% so, prime plus one is 4.25%. That might be a very satisfactory rate for a family loan. Let’s keep in mind, historic rates for home mortgages are up in the 5’s. Thus, 4.5% is still a pretty good deal.

Hmmmm, could a loan like this become part of your retirement income? If you are retired, this sort of thing can be helpful to your income. $40,000 at 4.5% generates about $150 a month in interest income. That's a nice supplement to someone's Social Security.

Of course, I suppose that each of us knows our kids and whether or not they would be a responsible adult and repay their loans; particularly loans from their parents! Let’s keep in mind that we need to go all the way and file a deed of trust and have your kids sign a promissory note that details how the loan is to be repaid. If you don’t do that, you deserve all that you are not repaid! The deed of trust protects your loan interest and your interest in the property. Without it, should you kids fail to pay, your ability to get repaid thru the trustee sale or foreclosure sale of the home will be compromised.

Emotional? Yes, there are a variety of ways for this to become an emotional mess. Is the parent depending on the interest from this loan to help with their retirement income? A missed payment in this case could be very critical. Suppose the son or daughter is involved in a large lay off? Even worse, their job is in low demand and finding a new job will take a lot of time. During this lay off, they stop paying their first mortgage. It is then the responsibility of the second mortgagor to make good the first mortgage to keep the first lender from filing foreclosure. Can all parents afford to pay this for their kids? That is a lot of stress and demonstrates for us the emotional issues that can come with lending to our kids. 

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Our next financial education workshops will be presented at our main office on Chesbro Ave in San Jose. This month we are offering "Establishing Credit" on May 15th which is a good course for high school and college students, but really works well for anyone interested in how credit gets established. 

On the 22nd we will be offering "Preventing Identity Theft" at our main office. This workshop provides you with all you need to know to prevent identity thieves and protect your good name from those who would use it for criminal acts. Get ready for summer vacation with our preventing identity theft class. 

May 15th - Establishing Credit - 6:30pm 
Meriwest Credit Union Main Office at 5615 Chesbro Ave, San Jose CA 95123
RSVP with Greg Meyer at gmeyer@meriwest.com or call at 408-365-6328

May 22nd - Preventing Identity Theft -6:30pm

Meriwest Credit Union Main Office at 5615 Chesbro Ave, San Jose CA 95123
RSVP with Greg Meyer at gmeyer@meriwest.com or call at 408-365-6328
 

The Costs of Bad Credit – Part One

I have always thought having and using credit was expensive. The whole idea of paying money to use money irks me. In our society, borrowing money is a necessary evil in order to build a good financial history. So, after high school or college, we enter the financial world and start using credit. Some of us used credit to enhance our lifestyles with purchases of stereos and TV’s; others purchased cars or even homes. Of course, we were all aware there is a cost to using credit. We pay a fee known as interest to borrow or, in a sense, rent the money we don’t have.

But for some of us, there were some hard lessons learned about the costs of using credit. When a payment is late, there is an additional late fee added on to your costs. A typical credit card late fee can be as high as $35. The late fee on a mortgage can average 5% of your monthly payment. A $3,000 monthly mortgage payment would have a late fee of $150! Late loan payment fees apply to RV loans, motorcycle loans, ATV loans, and other types of consumer loans.

Credit card companies will not only charge you a late fee, they will also charge the cardholder penalty interest. Your credit card’s interest rate may be a nominal 14.5%. But a late fee will cause that rate to more than double to 29.99%! Now any money you borrow through your card will cost you twice as much in interest as it did prior to your late payment. What’s the difference? One thousand dollars held for one year at 14.5% interest will cost a borrower $145. The same amount of money held for one year at the penalty interest rate of 29.99% results in a cost of $299! Is it like that forever? No. If you make six months of on time card payments after being charged with a late payment, you can get your credit card’s interest rate back to the original rate.  

Another one of the costs of credit are the fees paid by someone who allows a debt to go into collection. A debt or bill becomes a collection when the debt is reaching its first date of delinquency; usually the 90th day of nonpayment. At that point, the firm holding the debt can try to collect it themselves through their lending department or internal collection department or they may sell the debt to a collection agency. That collection agency buys it at a discount of 10%, 20%, or more from the original holder. The agency will also place their own “collection” fees on the debt. This may increase the debt by another 10% or so. When you consider late payment fees and collection fees, it makes paying on time look so attractive!

Late fees, penalty interest rates, and collection fees are only part of the cost of bad credit. Making credit mistakes also means there is a hit on your FICO score, reducing it. When one’s credit score gets low, the cost to do business via credit increases.

Part 2 of "The Costs of Bad Credit” will feature the expense of high cost credit products intended for families with compromised credit scores who cannot access regular affordable credit products. Check this blog next week for the scary conclusion to, “The Costs of Bad Credit.”

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And don't forget our Meriwest Facebook page.  We love to get new fans and have them check in when they visit our branches. It is also a great way to keep up with new products and services and what your credit union is doing in the community.

Our next "Credit Myths and Repair Workshop" will take place at our Milpitas Financial Center on Aug. 29th at 6PM. Credit Myths goes over the Top Ten Myths of credit and how to access your credit report for FREE.  I hope you can join us!

Have a great week!

Late Payments will have you Hurtin’ for Certain!

Paying our Visa card or car loan late is not something we want to do, but sometimes due to our finances or forgetfulness, it does happen. There is no worse feeling than mailing that payment and knowing it will be at least 30 days late. We know that there will be a mark on our credit and many of us believe that mark will be with us forever! I can tell you it will not be with us forever.

Most loans and credit cards give us a grace period in which to make our payment. If we make the payment before or on the last day of our grace period, our payment will be on time. If you let that payment go one extra day past the grace period, your payment will be considered 30 days late by your lender. Be careful with the grace period. Pushing the cut-off date to the wire can lead to consequences, depending on when/how payments are processed. This should be a last resort, it isn’t advisable.

How does that affect your credit? It depends on how much credit you are utilizing and how it is managed.

• If you have a lot of credit like a home loan, an auto loan, and some credit cards that are kept current, one late payment won’t take you completely out of the credit market. Yes, your score will drop as a result of the late payment but because you are managing several other forms of credit properly, the late payment’s affect on your credit will not be too severe. As you make your future payments on time, the effects of the late payment will be mitigated by the good credit you are continuing to manage.

• If you have a limited credit file and that credit card is the only card you have; that late payment could have a strong effect on your credit score. The late payment, whether you have an extensive credit file or a limited one, will be with you in your file for the next seven years. But, surprisingly, it does not have the same weight upon your score for the entire time.

The effect of late payments on your credit score is “front loaded.” What I mean by this is that 70% of the effect that late payment has on your score takes place in the first 24 months after the late payment! After that initial 2 year period, you will see your credit score bump up and, as it becomes 36 months, 48 months, and further into your past, its effect will be diminished each year and you will see your score bump up each year until it drops off your credit report completely at the end of the 7^th year. You can help yourself further by making all other debt or credit payments on time. Good credit offsets bad credit.

By the way, there is one additional cost to paying your credit card bill late: Penalty Interest. In many cases, paying your card late will not only decrease your credit rating, it can cause an increase in the rate you are paying for credit! Your interest rate can increase dramatically. It not uncommon for your interest rate to go straight up to 29.99% or even more with just one late payment. Depending on how large your credit card balances are, this can cost you thousands of dollars in additional interest charges and prolong your time in debt. Most issuers will require you to have six months of on time payments before reducing your rate. You need to check with your card’s issuer to determine their particular policy on late payment penalty interest.

One late payment is a cause for concern, but it is not, by any means, the end of the world or end of your credit file. One of the ways you can assure yourself that you will not be late is to utilize your online banking and bill pay here at Meriwest Credit Union to set up your automatic payments. Simply fund your account with your direct deposit, set your payment schedule in online banking as a transfer or in bill pay as an automatic payment and let the free online banking payment service do the rest!

Questions? Ask the Meriwest Credit Union Guy at gmeyer@meriwest.com

Don't forget our Free Financial Education Workshops offered here at our main office in San Jose:

Free Financial Education Class: Real World Budgeting for Teens
Wednesday, June 13, 2012 - 6:30-7:30 p.m.
Chesbro Financial Center, San Jose, CA

 

Free Financial Education Class: Auto Financing 101
Wednesday, June 20, 2012 - 6:30-7:30 p.m.
Chesbro Financial Center, San Jose, CA

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