Stress, Scarcity, and Financial Decisions

I attended a webinar about financial health last week that was sponsored by the Military Families Learning Network. The webinar was designed to help professionals who serve military families better serve their clients in times of financial stress. Below are four key take-aways from the webinar presenter, Shawn Young, from the Financial Health Institute:

Money is Only One Resource- Families often have more resources than they realize. For example, in-demand job skills and strong social bonds are resources for income and in-kind services in lieu of income. Focus on resources that are available.

Stress Impacts Cognition- Human brains are not designed for long-term stress. Severe stress lasting weeks or months can impair the brain’s learning and memory region, cognitive capacity, motor skills, and more. One study found that financial stress can tax a person’s mind enough to cause a 13 point drop in IQ.

A Scarcity Mindset Impacts Financial Behavior- With a scarcity mindset, people believe that “there will never be enough” and their thoughts and actions reflect this. Examples include under-tipping waiters to pay less for meals, not investing to avoid losing money, and clinging to possessions, even hoarding.

People Only Have So Much “Mental Bandwidth”- The term for this is “tunneling,” which is the act of focusing so intently on one issue (e.g., a crisis event) that other issues are unable to be seen or acted upon (e.g., routine financial decisions). Studies have found that pressing financial concerns reduce brainpower needed for navigating other areas of life.

To view the webinar and presentation materials, visit https://militaryfamilieslearningnetwork.org/vc2019/holisticfinancialhealth/.

Check Your Credit Report Before You Get a Mortgage

This week’s financial tips are based on a recent personal experience as the seller of a house in New Jersey. Less than one week before the scheduled closing, I received word that my home buyers were switching from a pre-approved conventional mortgage to an FHA mortgage. I thought to myself: “who changes mortgages at the 11^th hour and pays for additional appraisals and fees? More importantly, why?”

I soon found out that my home buyers’ mortgage company did a final credit check and found an unpaid lien in their name.  Either it was a new lien or the lender did not find it before. I don’t know. The lender then disqualified them from the pre-approved conventional mortgage because no lender will lend money for a house that can be subsequently encumbered by a borrower's old creditors. The buyers subsequently paid off the lien but, in doing so, spent most of their down payment. They have already spent thousands of dollars to apply for a loan, inspect my house, well, and septic system, and test for radon.

After paying off the lien, my home buyers no longer had enough cash to make a 10% down payment so they are seeking a lower down payment through a FHA loan, which requires only 3.5% down with a FICO credit score of at least 580. I did the math and the difference between a 10% and 3.5% down payment on my house is $18,665. The flip side is that their mortgage will now be $18,665 higher than previously planned and they will have to pay an upfront FHA mortgage insurance premium of 1.75% of the home loan, regardless of credit score, ($5,022.50 in this case) and monthly mortgage insurance payments for the life of the FHA loan. With a conventional mortgage, mortgage insurance (PMI) ceases when 20% equity is achieved.

Here are three take-aways from my situation for people who are buying and selling homes:

¨     A Mortgage Pre-Approval is NOT a Guarantee- New credit checks with negative data and newly incurred debts by home buyers can make their pre-approved mortgages null and void. Home sellers need to be prepared for this possibility. I wasn’t, but, ironically, the delay actually benefited me by staying in my house longer and saving on hotel costs.

 

¨ Check Your Credit Report BEFORE Applying for a Mortgage- Assuming the lien wasn’t new, the buyers could have found it and addressed it before applying for a pre-approved mortgage. Ditto when a home buyer finds evidence of identity theft. Finding the lien and paying it off would probably have delayed their home purchase timeline a bit by stretching out the time needed to save down payment money. However, they would not have had to desperately try to salvage their loan by piling on additional debt and mortgage insurance fees.

 

¨ Don’t Mess Up Your Credit Before the Closing- Credit histories need to be positive and stable between mortgage pre-approval and the closing. They will be checked again by lenders as my buyers’ were. This means no new car loans or leases, big ticket purchases, late payments, or other actions that lower a credit score. My buyers (and I) were lucky. Their FHA loan was approved, but they will be paying thousands more in interest over the next 30 years than they originally planned to. All because they did not check their credit before applying for a mortgage. Don’t make this mistake!

 

Key Take-Aways From FinCon 2019

Last week, I attended the 9^th annual FinCon conference. While primarily designed to foster participant networking and content creation skills, FinCon also contained personal finance updates. Below are my five key take-aways for consumers:

 

¨      Keynoter Ramit Sethi, author of I Will Teach You to Be Rich, discussed prioritizing spending and encouraged attendees to spend lavishly on things that they love (if affordable) and cut out things that they do not. He also encouraged spending to create magical experiences, lifelong memories, and a rich life. Later, a documentary film about people trying to increase their savings and reduce expenses to reach financial independence by middle age, recommended that individuals and couples make a list of things that make them happy to help set spending priorities.

 

¨      A panel of speakers discussed overcoming the financial effects of different types of adversity (i.e., “when things don’t go right”). One panelist noted that people do not change unless the pain of changing (e.g., overcoming an addiction) is less than the pain of staying where they are now. People can-and do- change when given support and a chance.

 

¨      Most people select credit cards because interest rates are low and/or rewards programs are lucrative. Recent industry trends include more credit card issuers targeting “near prime” consumers with less than stellar credit scores to expand their customer base and several creditors experimenting with daily or weekly rewards for credit card use.

 

¨      A speaker from one of the “Big Three” credit reporting agencies, Experian, noted that they do not include civil judgments, unpaid taxes, tax liens, library fines, and parking tickets in credit reports. They also hold medical debt information for 180 days to make sure that it is not due to a billing error or a late insurance payment. Experian also has a program, called Boost, where consumers can voluntarily give them permission to have positive utility, cell phone, and cable television payment information included in their credit history.

 

¨      CNBC Senior Personal Finance Correspondent, Sharon Epperson, who suffered a brain aneurysm and was out of work for a year, encouraged attendees to prepare for unexpected events that can lead to disability or even death. Specific strategies that were mentioned included adequate health and disability insurance, estate planning documents (will, living will, and durable power of attorney), and automated bill paying. She also encouraged attendees to stop and think about their daily schedule of activities. “It should not take a traumatic event to make you stop and prioritize,” she noted.

Get to Know Your Credit Card

Want to know all the features and terms of a credit card? Carefully read its disclosure box (a.k.a., Schumer box). In it you will find information about the following:

Annual Percentage Rate (APR)- Lenders must disclose all types of APRs (interest rates) including introductory “teaser” rates (e.g., 2.9% for six months), standard APRs, and penalty (default) APRs that are charged for specific infractions such as late payments.

Fees- Examples include late fees, over-the-limit fees, and fees for cash advances and balance transfers. These fees are not included in APRs because only some credit card users pay them.

Grace Period- This is the time period, typically 20 to 25 days, between the posting date of a transaction and the payment due date. It is only available to cardholders who paid the previous month’s balance in full and on time.

Balance Calculation Method- Two common methods are “daily balance” and “average daily balance.” New purchases are generally included. With both methods, the sooner in a billing cycle a credit card is paid, the lower the balance on which interest is charged.

Once you have read some Schumer boxes, select a credit card that’s right for you. Cardholders who are “convenience users” (i.e., they always pay their bill in full and do not pay interest) should look for a long grace period, no annual fee, low fees, and a good rewards program. “Revolvers” who typically carry a balance forward should look for a low interest rate, no annual fee, low fees, and a long “teaser rate” if the balance can be repaid before the introductory rate ends.