Saturday, October 31, 2009

Debt Settlement

Those of you who follow this blog must realize that I am a suspicious soul. I have read about debt settlement companies and have even talked with one of them. I must admit my bias. One of my friends tells me from time to time that skepticism is not a spiritual gift. That said how does debt settlement work?

A company will offer to lower your credit card debt and your monthly payment. If, for example, you have $10,000 on a credit card, you have missed a couple of payments, and debt collection agencies are harassing you daily, you can call up one of these companies and they will make the following offer. We guarantee we can lower your monthly payment to $180 a month and in 36 months your debt will be completely repaid. In other words, you will settle a $10,000 debt for $6,480. Unpacking this offer a little further, I discovered that this one particular company has a relationship with some of the major credit card issuers but not with others. If you have a credit card from one of the companies in their network and they take you on as a client, they will immediately negotiate a $5,000 settlement (or maybe less, you’ll never know) with the credit card company and charge you a 15% fee on the original balance, in this case $1,500. Not surprisingly, their fee is the first thing they collect from your payments.

Sounds too good to be true, well, first of all this is something you can do yourself. Right now, the card companies are looking to clean their books and get rid of customers like you before the new law takes effect in February. This week Citibank raised the interest rates on millions of their card holders, even those with excellent payment records, apparently just to get ahead of the law. Today, companies will settle for as little as 25% of your balance, if you can pay that amount off in a lump sum, although 40%-60% is more common.

I would personally recommend that if you are in really bad trouble, seek the help of a certified credit counselor at a nonprofit agency. They will develop a personal debt management plan for your particular situation. This service should never cost more than $50 a month and frequently $30 a month or less. Know who is working with you. Research them thoroughly with the Better Business Bureau. There are a lot of dubious characters and outright criminals working in the debt relief business. Make sure you get everything in writing and make sure you understand it. Some of these companies will actually pay off the original creditor, then sell the balance of your debt to another collection agency!

If you decide to use a debt settlement service, you will no longer be threatened by collection agencies, your credit report will no longer show a current delinquency, and you will really save yourself some money. However, you will not save as much money as the pitch would lead you to believe. All of that forgiven debt is considered taxable income by the Internal Revenue Service. They will send Uncle Sam a 1099-C form indicating the amount of your windfall and you will have another debt to worry about. Please talk to a qualified tax accountant before signing anything. Finally, utilizing this service will wreck your credit score. A debt settlement rather than a debt payment will be placed on your record.

And, Hey! Let’s be very careful out there.

Monday, October 26, 2009

Paradise 2009

I am back from paradise and as before I would like to take a little time and reflect on the experience and how what I saw relates to the spiritual and financial world around me. We rented a beach house in the tiny village of Milolii (pronounced Me-Lo-Le-E), located at the foot of a 1,500 foot cliff on a black lava flow. The North section of the village is a small, scattered, development of weekend getaway cottages and vacation rentals. The South end is a rural native Hawaiian hamlet that styles itself, “The last fishing village in Hawaii.” This place is really at the end of the road or perhaps at the end of the rainbow. They did not even have electricity until 2004. There are no wells or city water. Homes have catch water tanks that capture the rain that falls on the roof of the house and main water tanks that are filled by water trucks. Our little house is a bungalow located on a lava shelf about 100 feet from the ocean. It is about a 12 foot drop from the lava to the water. Since the house uses post and beam construction the entire wall facing the Ocean is either glass or screens. Every morning I would rise before sunrise and sit in a very comfortable chair facing the ocean and drink my morning cup of coffee as the light of the sun came over the mountain behind me; nothing but the sound of the ocean, the spray from the waves hitting the rocks, and the endless expanse of the Pacific. There were usually no boats or swimmers to be seen, especially at that hour. It is a wonderful place to unpack the mind and heal the soul and the body, but there is nothing there but the rocks and the ocean. It is the kind of place Hawaiians go to get away from it all. I heard this from both a native Hawaiian camper and an Anglo-Hawaiian artist with a gallery in Kailua town (the local tourist trap). If you are looking to be entertained, or if you are afraid of spending time with yourself you would probably be happier somewhere else.

Hawaii’s economy is really a two legged stool. By far the largest component of the economy is government. Most of that is the military presence on O’ahu (Pearl Harbor). The second big component is the tourist business. Since the land is so valuable and the labor rates are high, agriculture (traditionally the third leg of the stool) has shrunk to a very small shadow of its former position. I picked up a hitch hiker who looked like a homeless guy. He turned out to be a farmer who owned a small coffee and macadamia nut holding. He is working to return 20,000 acres of the Big Island to agriculture. Currently, he informed me, the Big Island imports 85% of its foodstuffs. The island could easily be self sufficient and he is working towards that end. It is a goal that he will likely never reach, barring some world catastrophe, since it makes no economic sense. I really enjoyed this ride with an interesting, intelligent, and articulate man. He came back to Hawaii from a very bad experience in Vietnam. At first, he told me, he didn’t do so well but eventually he found the healing he needed.

I think the average Hawaiian is doing better than the small businesses that service the tourists or the state government. The unemployment rate in the state of Hawaii stands at 7.5%, about 2% below the national average. This is not good, but not a disaster. The tourist trade has dropped measurably. Since the profitability of the hotels is based on occupancy and room rate some of them are in a bit of trouble or even chapter 11 bankruptcy, but they appear to all be still in operation. I saw one large resort development that was abandoned after the foundation was poured, but only one. Want to buy a prime commercial site zoned for a resort hotel in Kailua cheap? Talk to me. Real Estate in general and commercial real estate in particular has dropped in value. Anyone could see this coming. Property was appreciating at rates of 13% per year. In our last visit to the island a local business man told me this was unsustainable. He was right.

There are a lot of empty store fronts in the big strip malls. The chain stores and franchise businesses are doing OK. The high end shops at Waikaloa Village are doing OK. The rate of growth out there is noticeably slower but everybody seems to be surviving. The rich Japanese tourist still must have money to spend. Waikaloa Village must be seen to be believed. It is a completely over the top Hawaiian version of a Las Vegas hotel complete with a canal and motor boats to take you from building to building (really). Every day at the local Walmart (save money live better) looks like the height of the Christmas rush. It is the small businessman who has taken it on the chin. The tourists aren’t coming in past numbers and those that are, including yours truly, are not spending as much money on discretionary extras. How bad is it? Last year United Airlines was running a daily Boeing 777 flight (about 370 passengers) from Chicago to Kailua Kona. Now that flight runs only two days a week. One very unhappy employee of Hilo Hattie’s, the ultimate mid level Hawaiian gift store now in Chapter 11 bankruptcy, told me the number of cruise ships visiting Kailua by mid October in 2008 was about 220. This year the number has dropped to slightly over 70. The hotel occupancy rates are down from a tradition level approaching 80% to something closer to 55%. An empty room earns nothing but still costs to maintain. Room rates are dropping but the rooms are still empty.

The loss in revenue is killing the state government. Friday public school furloughs were the big news item when we were out there. Parents were jumping up and down in rage. However, the children playing in the surf did not seem to mind the extra days of vacation. Hawaiians, as a group, are still remarkably laid back, although perhaps not quite as laid back as in years past. There are growing but not yet serious stresses between the ethnic communities. Some native Hawaiians have bought into the Hawaiian sovereignty movement and look to return to the time of the kings. Haole (white) businessmen grumble about native Hawaiians and illegal Pilipino immigration. The folks in Waiohinu, a small farming town near the South end of the island complain about the poverty, trailer trash, drug addicts, and criminals from Ocean View, the next town up the road. The folks in Ocean View blame the latest house robberies on the drug addicts from Milolii.

The economy has stressed everybody a bit, but the crime rates and stress levels in Hawaii are still so far below those of the mainland they really can’t be compared. Hawaii has had a methamphetamine drug epidemic that seems to be running its unfortunate course, as these things do. It is a particularly addictive destructive drug. As such drugs spread their victims tend to end up dead or in prison and the word gets out that the drug is every bit as dangerous as your parents are telling you. Demand decreases and the epidemic contracts, leaving the dead, ruined lives, and misery in its wake. I spoke with a psychologist who works with at risk children and abused women. She says you have to be careful asking a Hawaiian if they use drugs. They do not consider Paca Lolo (marijuana) a drug. Dat’s just the herb, brudder.

I find that Hawaii, particularly the Big Island, is a special place of healing, at least for me. I always feel better, eat better, exercise more, and find time for mindfulness when I am in the islands. On our first day in Milolii I saw a rainbow, not an unusual event in Hawaii, but this rainbow looked to end just about 20 feet out in the ocean near our house. I never before found myself literally at the end of the rainbow. I think that is symbolic of something.

John 14

[27] Peace I leave with you, my peace I give unto you: not as the world giveth, give I unto you. Let not your heart be troubled, neither let it be afraid.

Sunday, October 4, 2009

Morton's Fork

This post started as an update to my continued fascination with the changes in American business ethics (an oxymoron if ever there was one). The God and Game Theory series lacked structure and was, at times, a bit over the top, but the subject is important. The world is changing and changing very fast. The substitution of game theory for God began back in the late 60s or early 70s. I would contend the first truly egregious example was the exploding Ford Pinto. Ford knew that in certain types of rear end collisions the Pinto gas tank would rupture and their customers would be burned alive. They calculated the number of accidents multiplied that number by an average law suit settlement and decided it was better to pay the surviving family members and their attorneys than it was to reinforce the gas tank at $15.00 per car. At the time game theory did not exist as a mathematical discipline outside of a few foundational academic papers, but Ford already understood game theory.

A number of events pushed this kind of ethical decision making process out of corporate board rooms and into the main stream of American life, but by far the most significant event in this story is the subprime mortgage crisis and the subsequent collapse of the housing bubble. This story is still unwinding and the end is not yet is sight. Yesterday I talked to a real estate saleswoman, a friend and neighbor. She is on the verge of despair. Nothing is moving. Houses in my neighborhood have dropped in value from $450 K to $300 K. When the prices fell below $400 K everyone trying to sell their house just pulled it off the market, postponed their retirement and move or turned their house into a rental unit and left Poolesville. We had one house in the neighborhood repossessed by the primary mortgage holder. The former occupants did about $70 K worth of damage on the way out, leaving the bank with a property that sat on the market for about a year before it sold at something less than $200 K. Now a nice young couple and their children are restoring this house to its former state as a live in work project.

Multiply these events by a million and what do you get? Nationwide, due to an increase in rental properties, the percentage of American home ownership is dropping for the first time since the stagflation of the Carter years. In those days, it was cheaper to rent than it was to buy because mortgage rates were obscenely high. Today, in many markets, it is cheaper to rent than buy because home owners (banks included) want to sell their homes for what they think they are worth not what they are worth. It is also the basis of “strategic defaults,” the so called jingle letters. If the value of the house has fallen so far the mortgage payment has no basis in reality and the owner has no significant equity position in the property, it is in his rational self interest to just walk away and let the bank deal with the problem. In some instances, such as severely blighted working class neighborhoods in the rust belt, the bank is refusing to take possession of the property or pay the taxes, leaving cities like Detroit in a terrible state. Not only are they not receiving their property taxes but they are watching empty houses becoming campgrounds for the homeless or safe houses for drug dealers. To solve these problems, Flint, Michigan is bulldozing entire neighborhoods and turning them back into fields.

All this has left the banks and owners of mortgage backed securities skewered on what Mish Shedlock has termed Morton’s Fork.

From Wikipedia

A Morton's Fork is a choice between two equally unpleasant alternatives (in other words, a dilemma, or two lines of reasoning that lead to the same unpleasant conclusion.
The expression originates from a policy of tax collection devised by John Morton, Lord Chancellor of England in 1487, under the rule of Henry VII. His approach was that if the subject lived in luxury and had clearly spent a lot of money on himself, he obviously had sufficient income to spare for the king. Alternatively, if the subject lived frugally, and showed no sign of being wealthy, he must have substantial savings and could therefore afford to give it to the king. These arguments were the two prongs of the fork and regardless of whether the subject was rich or poor, he did not have a favorable choice.

If the banks renegotiate the mortgage to reflect the current realities of the housing market, they will lose substantial amounts of money over the life of the mortgage. If they do not renegotiate, more and more Americans are telling their banks to go pound sand, walking away from their house, and leaving the bank with a damaged property no one wants to buy. Since the official unemployment rate is at the near depression level of 9.8%, there is no guarantee that renegotiated mortgages will not fail in a few months anyway. This is happening. A substantial number (I believe it is actually a majority) of households with renegotiated mortgages are defaulting within a year.

And remember, there is a glut of rental properties. The cost of renting these properties is dropping. The people walking away from their mortgages can rent a nice home for less than their mortgage expense. Don’t look for a significant rebound in housing prices any time soon.

Jeremiah 8
[20] The harvest is past, the summer is ended, and we are not saved.

Saturday, October 3, 2009

The Debt Snowflake

The Bible advises, get rich slowly. The same principle can be applied to debt reduction. This method is called the debt snowflake. It could be used by itself or with either of the other methods listed in this blog. It is a pretty simple idea. One snowflake falling on the ground is no big deal, but thousands of snowflakes over a very long time results in large accumulations even in a desert, like Antarctica, where the measured rainfall (snowfall?) is less than ten inches a year.

Decide not to put that $3.50 latte on your debt card? Good for you but don’t stop now. Put the expense you didn’t make in a note book or put the cash in a jar. Then at the end of the month or sooner if the amount is large use that money to pay off the credit card. Make it a game.

Anything can be a snowflake, a small debt repaid by a friend or even the difference between a brown bag lunch and the cost of the company cafeteria. Snowflakes can also be proactive, the return on a yard sale or pay from a part time job. Don’t limit yourself to thinking that all snowflakes are small. Liz Weston differentiates between big snowflakes and little snowflakes thusly, “A glacier calves when a big chunk of ice shears off its face, typically landing in the water with a big splash. Debt calving is when you get a big windfall and throw chunks of it at your debts.” For example if you receive an inheritance or a sizeable tax refund, use that money to pay down your debts. That is exactly what most Americans did with the recent $600 tax windfall checks.

I have been in retirement snowflake mode for about four or five years. I have been placing as much money in savings as possible. I call it savings overdrive. By the way, you can point your finger at me and mention my beer, lunch at our overpriced cafeteria at work, and an occasional expensive vacation. None of us are perfect.

Yesterday I thought of one caveat I would like to add. While I was cutting the grass with my ancient decrepit lawnmower, the entire front wheel assembly broke off its rusted frame. I knew I had to replace the thing but I was hoping to make it to the end of the season when all leftover lawnmowers and used motorcycles go on sale. I borrowed the neighbor’s machine and finished the job. I believe I will have to cut the grass one more time before the cold sets in for good, so I won’t be buying a lawnmower in December as I hoped. No harm, no foul, but what if I put off something like changing the oil and filter in my car for several years and this resulted in a major engine failure? As the Fram man says, “You can pay me now or you can pay me later.” Make sure your snowflakes don’t cause a bigger problem down the road.

Otherwise, you are safe using this method. It is endorsed by King Solomon, and remember, all avalanches, snowballs, and icebergs are nothing but a very large number of snowflakes.

Proverbs 13 (Bible in Basic English)

[11] Wealth quickly got will become less; but he who gets a store by the work of his hands will have it increased.