Tag: Credit/debt

My 100,000% credit card interest gaffe

No, no … I wasn’t charged 100,000% interest by my credit card issuer, but I did literally gasp aloud when my own gaffe – which I’ve gratuitously estimated at that crazy figure – came to my attention on my credit card statement recently.

To be clear, a credit card is a powerful tool that offers convenience, efficiency and even some financial rewards. It would be fair to say that understanding and using a card wisely are fundamental financial skills in modern commerce.

In my case, which I will go into in more detail below, it is effectively the hub of our family financial routine. But before I get into the specifics of what sunk my spirits, a little background on the mechanics of credit cards.

Converting your credit into debt

For those new to the arrangement, a credit card is not a cash machine. Rather, it allows you a certain amount of room (your credit limit) to make purchases, the value of which then accumulates as your debt.  The way most cards work, you have 21 days from your monthly statement date to pay the balance owing, and if you pay it all off then you don’t owe anything more. Sweet deal, huh?

How credit card interest is calculated

Now if you don’t pay it all off, that’s where interest comes in. You have had use of the card issuer’s money since the date of each of those purchases. Again, if you pay off the full balance, no interest applies. Once more, if you pay off the FULL balance, no interest applies. If you pay anything less, interest is charged for the month as if you had not paid off ANY of it – Check your statement for your particular interest rate.

Our household money management method

My wife and I don’t use credit cards for the credit, as strange as that sounds. Mainly, it’s the convenience of pulling purchases into one place, though we do enjoy receiving a few reward points in the process.  We have two cards on the same account for the majority of our expenses, and every day or two we transfer the amount of the purchases into a side account to accumulate a cash reserve. At month-end, that cash is ready to retire the balance, even before the statement hits our inbox as a formal notice.

100,000% interest? Seriously?!

Earlier this year, I received and paid the statement the day it landed. Unfortunately, as I learned when the next month’s statement arrived, I’d transposed two digits in the balance, thereby paying a mere(!) 99.7% of what was owed. That 0.3% shortfall multiplied by the 19.5% interest on the balance, paid on day one of the 21 I had available, works out to 115,097% — But let’s not be ridiculous, so call it a round 100,000%.

The money moral of the story

Of course that’s crazy math, but the point is this: Make sure you understand how your credit card interest is calculated – and wear your glasses when paying the bill. Fortunately for me, my card issuer had mercy on me, crediting back the interest once I’d explained my error. Importantly, their action was based in part on my good past payment practices, which I will conscientiously continue with each future payment.

A loan for home improvements

Payback points to ponder

Much as we enjoy our homes, it seems we’re bombarded with suggestions on how to change it all up. Whether it’s magazine glossies, home reno TV shows or seemingly endless social media posts, it’s hard not to cave-in to the allure of making things bigger, more comfy, trendier, or just plain different.

It can be especially tempting if you have a home equity line of credit (HELOC) available to fund those dreams. Freed from annoying financial constraints, you can focus on making the vision in your mind today your lifestyle tomorrow.

But be careful, as there’s another tomorrow after that, meaning that eventually you have to pay up. It’s not inevitably bad, but let’s take a closer financial view.

The emotional benefit laid bare: Lifestyle lift

Before descending into the finances, let’s accept that by building the equity in your home, you have put yourself in the position to make these changes. After years living and reflecting on your space, you know what best suits you, and what will suit you even better in future. With the benefit of some unbiased professional advice on the options you’re considering, you’re ready to make it happen.

Have a building budget and a construction timeline

Whether you are doing the work yourself or engaging a contractor, make sure you have a budget and a timeline. With a contractor, well … have a contract. Clearly outline the repercussions if the terms are not met, and think practically about if and how you will enforce them (or why bother?). An unbudgeted project runs the risk of ballooning up to whatever is available, so do your homework ahead of time.

The purpose of borrowing money determines the tax treatment

When you paid down your home mortgage, neither the interest nor the principal repayment was tax-deductible. In the case of a HELOC, if the advanced funds are used for an income earning purpose, the interest can be deductible. In this case where you are using that cash to pay for personal living expenses, the interest is once again not deductible. Repayment of the HELOC principal isn’t deductible at all.

Financial planning and repayment timeline for your HELOC 

Interest may be historically low, but a HELOC is usually a floating rate debt, meaning the rate will rise if and when interest rates rise generally.  As both interest and principal are non-deductible for personal purposes, you will have to earn money, pay income tax on it, then make your payments. Laying emotions aside, the best first step to a home improvement is to know how much you can afford out of your weekly paycheque to pay off any loan. That gives you the cap on your budget, and the practical project limits.

Living versus investing

A common comment you will hear, perhaps out of your own lips, is that home improvement is an investment. While it is true that some renovations may add to property value, unless you are about to sell, it’s mainly a lifestyle decision. Be ready to literally live with and within the project you undertake, so you can enjoy the results for years to come, and put the costs behind you sooner still.

Millennials’ top 3 financial priorities

Pay debt, own home, fund retirement

According to the Ontario Securities Commission (OSC)*, millennials – people born in the 1980s & 90s – are the largest contingent in today’s labour force.  Roughly aged 18 to 38 today, this demographic cohort spans those deciding what interests to pursue, to those now hitting stride in their chosen field.

At the personal financial level, it runs the spectrum from emerging from full dependence on your parents, through your own independence, and on to being someone on whom others depend.

The OSC recently surveyed Ontario millennials to get a sense of their investment practices, attitudes and behaviours.  On a high level, here is what came out.

The pre-priority: Saving 

Millennials do save, or at least 80% do.  That doesn’t explain much on an individual basis, but it reinforces the collective wisdom.  From there, the top three financial priorities are reducing debt, buying a home and saving for retirement.

Like any journey, managing finances can be overwhelming to tackle all at once. The necessary first step is to manage spending so that you have savings to work with.

1.  Get that debt

Debt allows you to obtain things you need at times in your life when you don’t have the immediate financial resources to afford them.  Eventually though, you must pay it back, and in the meanwhile pay the cost of carrying that debt.  More than 80% of millennials see this as very or extremely important, with it being the top priority for 1 in 5.

Whether it’s student debt as a headstart, a consumer loan to get ahead, or a credit card that has gotten ahead of you, these types of debt are costly.  With the exception of some regulated student loans, interest payments are not tax-deductible.  That means you have to earn income, pay tax on it, then use what’s left over to pay your interest – and that’s even before you pay down the principal, which is also non-deductible.

Of the three financial priorities, you should make debt reduction proportionately the largest priority in your mind, if not your wallet.  This will free up your cash and concentration to address the other two priorities more effectively.

2.  A home of your own

Homeownership can provide stability, though renting often aligns better with a mobile/flexible lifestyle, especially early in life.  Carefully consider your motivations and financial capacity before deciding if and when to take the plunge as a homeowner.

For millennials in the last half decade, ownership fell four percentage points, which still kept it in line with rates in the 1980s & 90s, at around 40-45%.  This time it has been fueled by low interest rates and by almost half of first-time homebuyers receiving gifts or loans from parents.  However, close to 2/3 are left feeling cash poor after housing costs, with half concerned about meeting mortgage payments if interest rates rise.

If you are a would-be owner, you should stress test your capability by researching and analyzing the full financial commitment of ownership.  Once you have determined that figure, set aside the difference above and beyond your rent every month.  Your expected down payment (less existing savings) divided by that difference is roughly the number of months until you’re financially ready to commit.  If you find yourself having to dip into those savings, then you need to reassess your resources and timing expectations.

3.  Moving from saving to investing

While it appears that millennials are ready to save, the same blanket statement cannot be made about investing.  Less than half are investing those savings.  Of non-investors, the majority are held up by other financial commitments and debt repayments.  Even without those constraints, almost 60% say they delay because they don’t understand investing.

All hope is not lost though: the OSC survey shows that as millennials age, investment understanding rises.  By regularly gathering information, you not only build your store of knowledge, but also the comfort and confidence to know when and how to use it.

On that last point, among your millennial peers 46% have no plan as to how they will meet their financial goals. And of those who claim to have a plan, only 13% have it in writing.

Understanding investing may be a long haul, but understanding yourself is always within reach.  Take the time to sort through your own financial priorities, and put that into a written plan, even a simple one.   As your knowledge grows, you can get more sophisticated, but for the time being the task at hand is to get started.