Avoiding Payment Pain
The Dollar Stretcher
by Gary Foreman

Dear Dollar Stretcher,
I was really scammed on my 2007 Durango and now I can't afford the lease payment of $900 plus a month. I don't know what to do. The dealership won't return my calls. I am in trouble and I can't get out.
CB

Dear Dollar Stretcher,
I have a situation and I don't know what to do. I am in a vehicle that I am upside down in by $8,500. The vehicle is worth about $1,500. The vehicle is having a lot of mechanical problems and I have already spent over $3,000 to fix it. How can I trade the vehicle in and get a car payment that I can afford?
Kate

Many people are having trouble with their auto loans, leases or payments. In fact, according to Kelley Blue Book nearly one third of all drivers owed more on their vehicles than they were worth. So lots of people have similar problems.

And, our cars aren't the only place that we're seeing similar problems. Many homeowners are struggling to keep up with adjustable mortgage payments that are increasing. Much has been written on the troubles with the 'sub-prime' mortgages.

We won't attempt to tell people how to get out of these situations. Partly because there's already been a lot written about it. And partly because there aren't any real good answers.

Once you're upside down in a car or living in a home that you can't afford there's no easy solution. There is no painless way out. In fact, the choice is usually between taking your lumps now or putting them off and suffering even more later.

These problems usually have one of two causes. Either the consumer bought something that required making payments that they couldn't afford, or, in the interest of getting "affordable payments" they stretched out their payments which left them owing more than the house or car was worth for a long time.

So let's see if we can't help people to avoid these painful situations. Like most disasters, there are some warning signs that the smart consumer can look for. Let's examine a few.

The first is a simple question: what if? Before you sign the papers to buy a house or car (and commit to the payment) ask yourself what would happen if you lost your job. Or got sick for awhile. Or became pregnant. Or any other significant life event. Would you be able to make your payments or would you have a crisis on your hands? Life happens. A wise person is not surprised when it does.

Another good question is: are you close to the edge? There are budget guidelines that suggest limits for spending on houses and cars. How close to that edge would this commitment take you? It's always wise to leave a margin for error. Don't let a salesperson convince you that you can spend more than the guideline and make it up somewhere else. It won't work. At least, not for long.

When you're poised to take the keys to a shiny new car it might seem like you won't miss your weekly Friday night dinner out with friends. But six months down the road you'll begin to resent the payment. It's easy to get talked into buying a house or car that you can't afford. But the salesperson will not be there when the payments begin to hurt. At that point, like CB, you'll be alone with your problem.

Next question: How long could I be stuck? Sure, we all like "affordable payments."  But usually that means that you're not paying enough (or any) principal. So you build up equity much more slowly.

It's hard to sell something if you owe more than it's worth. Yes, you can roll some 'negative equity' into a newer car. But that only makes the underlying situation worse. Instead of being upside down for the first three years of the car loan, now it's four or five. Are you sure that you'll want to be driving it that far down the road?

Being stuck in a home could potentially be even worse. You may want to move to a new city for a job or to be with a sick relative. If you owe more than your home is worth you could be without options.

How can you know whether you're upside down in your home or auto? The best way is to graph out the value of your home/auto and the amount of equity you have in it (i.e. the value of the item minus what you owe on it). Most consumers probably won't bother to do that.

The next best thing is to take a good guesstimate. For autos, you probably should figure that you'll be in negative territory until about the last year of your payments. Maybe two years if you have a newer car that holds it's value well.

That works reasonably well for a car where you can predict future value. For your home it's purely a matter of guessing what your home will be worth in the future. And, that's not nearly so easy. So if you do a zero down payment, interest only loan, you're completely dependent on the housing market. You have almost no control over your situation.

What's the morale to the story? It's a wise person who anticipates future problems and avoids decisions that could easily lead to pain later. They may live in a little smaller home and drive a little older car. But by avoiding problems they actually have a better quality of life.
__________

Gary Foreman is a former financial planner who currently edits The Dollar Stretcher.com website and newsletters. The site is dedicated to helping people live better on the money they already have. If you'd like to stretch your day or your dollar, visit today!