Bankruptcy Chapter 7 & 13

McDonald Law
Offices PLLC

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ten stupid things people do
mess up their credit

Even smart people occasionally do stupid things. Most of these come under the category, "it seemed like a good idea at the time," but they may come back to haunt you and your credit later.  Many of these are signs of a precarious debt situation, and all are likely to make that situation worse.
  1. Cosign for relatives. When you're asked to cosign for someone, the creditor has determined that it does not trust that person to repay the loan. The creditor insists on you putting up your money, your property, your future income and your good name to guarantee that the loan will be repaid. If your relative does not pay, the creditor will come after you. The creditor does not have to try to collect from the relative. If you do not pay it, and it will looks just as bad on your credit as if it were a loan to you.
  2. Cosign for friends. It is said that the fastest way to lose a friend is to loan the friend money. Cosigning may be even faster. Imagine how you will feel about your friend if you get a call from the creditor telling you that your friend has not made a payment in several months and now the full balance of the loan is due--which you must now pay. Imagine how your friend will feel when you try to make him or her pay you back for the outrageous interest charges and collection fees that you have had to pay.
  3. Borrow from 401k and retirement plans to pay off credit card debt. These plans are there for your retirement. If you borrow from them while you are working--with more income than you will have when you retire--how will you pay your bills when you retire? If you do not repay these loans, you will pay income tax on the money you have withdrawn, plus an early withdrawal penalty.  In addition, since these kinds of benefits are usually protected in bankruptcy, borrowing on them reduces the assets you will be able to keep should you have to file.
  4. Take out a second mortgage to pay off credit card debt. Equity in your home is one of the few possessions protected from creditors in Arizona and many other states.  In most cases this equity is protected even through bankruptcy.  If you borrow on you home, you will increase the monthly cost to stay in your home which could result in its loss if your financial circumstances worsen. In addition, you will be converting short term debt--debt which should be paid off in a matter of months--into long term debt which will take years, or even decades to pay off. Even worse, you may be tempted to again run up the charge cards which you have been paid off so that you have lost your equity in your home for nothing.
  5. Sell your car to someone who will be making the payments. Unless the financing on your car is paid off, you remain liable on the loan. If you sell the car expecting the buyer to make your payments you take the risk that the buyer will default, or even skip town with the car. You will still have to pay the loan.  Just ask yourself, "Why can't the person that is buying your car can't get his or her own financing?"  Maybe the banks don't think he or she will be able to make the payments.  Another question to ask yourself, "Do you have more money to risk than the bank?"
  6. Lease a car. A lease is often the most expensive way to "buy" a car. Of course, you are not really buying anything. You are just renting the car, and when the lease is up you have to return it in good condition with no more miles on it the agreement states. Consumer Reports tells us that most dealers actively push leasing--and that leasing offers "far more opportunities for dealers to make money."1
    Some simple math will illustrate one pitfall. You have to pay for every mile you put on the vehicle over the mileage allowance specified in the lease. Typically leases specify a maximum of 15,000 miles, but sometimes this can be as low as 10,000 miles per year.2  If you put just 5,000 miles more per year than a 36 month lease allows, and you have to pay 18 cents per excess mile, you will owe $2,700 when the lease ends.
    In addition, you have to return the car in good condition.  One fourth of leased customers that Consumer Reports surveyed reported that "they faced lease-end charges, paying as much as $1,500 to replace worn-out parts, including brakes and tires, and up to $1077 for so-called excess wear and tear, including dents, scratches, and burns."3
    If you have an accident during the lease it only gets worse.  If the car is gets stolen or totaled, your insurance will only reimburse you for the car's market value.  If that does not pay off the lease and all of its charges, you will still owe the difference.
  7. Sell a home on an assumption or wrap. Just like the sale of a car without paying off the loan, the sale of a home on an assumption leaves you on the hook for the loan. Although Arizona's anti-deficiency statute on home trust deeds may prevent you from having personal liability on the first mortgage, it may still affect your credit--and you probably will not be released from liability from a second mortgage or a loan guarantee.
  8. Let car insurance lapse. If you have a financed or leased vehicle, the contract requires that you maintain comprehensive insurance on the vehicle. If you let it lapse, the secured creditor may purchase insurance and charge you for it. The insurance which the lender places on the vehicle is much more expensive that that you can buy, so expect a sizable charge. Don't forget, you will be paying interest on the insurance too. The insurance the creditor purchase is designed to protect the creditor and not you, so you may have no liability insurance.
  9. Take cash advances on credit cards to make payments. This is a sure sign of impending disaster.  Since you are increasing your debt, next month's payments will be even higher.
  10. Sell your car to a company that will lease it back to you.  If you need some quick cash and have a vehicle that has been paid off, you might be enticed by advertisements offering you that cash for your car but allow you to keep the car.  Under this scheme, you sell your car for 10 to 20% of its value, and lease the car back.  You get title back when you buy the car back before the end of the lease.  Arizona Republic reporter Pat Kossan investigated those kind of quick cash advertisements in Valley newspapers.  He found that interest for the quick cash averaged 214% over 1 year, compared with 29.9% which high-risk, high-interest finance companies might charge.  If the interest rate sounds outrageously high, it's only the beginning.  He also found that borrowers could be horrified to learn that they lost a car valued at $7,000 or $9,000 for a $1,500 loan.4

1 Consumer Reports, April, 1998, p. 20. Back.
2 Consumer Reports, December, 1997, p. 33. Back.
3 Consumer Reports, December 1997, p. 33. Back.
4 Pat Kossan, "Borrowing troubles? Quick cash for your vehicle title Lease-back often leaves sellers no car, no money," The Arizona Republic, February 14, 1999, p. A1 (Phoenix, AZ). Back.