Advanced Personal Finance

After mentioning the USAA Total Rewards credit card program I converted my card to a few weeks ago, I got a few comments and inquiries about the program. People seem to be wondering about the details and which one is better, so here’s my comparison of the programs.

USAA has two rewards programs for their cards - Cash Rewards and Total Rewards. Cash Rewards is pretty straight-forward. You get a small percentage of what you spend back at the end of the year. Total Rewards is USAA’s version of a ‘points’ reward system.

Cash Rewards

This program is simple. Each year, USAA tallies up what you’ve spent on the card and kicks you back cash. Here’s the accrual schedule

$1 - $2,000 spent returns 0.35%
$2,001 - $4,000 spent returns 0.75%
$4,001 - $15,000 spent returns 1%
$15,001 and up spent returns 1.25%

The ‘year’ runs from the February statement to the following January. The cash reward shows up as a credit to your January bill.

Total Rewards

This is USAA’s ‘points’ system similar to Citi’s Thank You Network. For every dollar spent, you get one point. You then spend those points to get gift certificates, merchandise, airline tickets, or cash sent to a charity of your choice. You can also redeem points, strangely, for cash.

The redemption formula is simple. For every 3,000 points, you get a $25 equivalent in gift certificates, cash, or charity. The airline value is on a slightly different schedule, and on a per-point basis, a slightly better deal.

Which is better?

The answer to the question ‘which is better’ really comes down to an analysis of how much you’re going to spend on the card in a year. The way it works out, if you spend anything less than $14,300 per year (that’s me), you’re better off with the Total Rewards system.  Total rewards is what I use. If you make purchases worth more than $14,300, it makes sense to use Cash Rewards.

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I am not a big fan of credit card companies. In fact, I’m squarely in the ‘anti-credit card company’ camp. I think many of their practices are predatory, their business practices suspect, and their profit outrageous.

That said, I think credit cards are valuable for college kids. In a good fraction of cases, kids attending public colleges need credit cards, and the credit lines they extend, to get through school. And, yes, I’m aware this means graduating college with credit card debt.

A bad idea
I’ve been reading a BusinessWeek series on the use of credit cards by college students (Part 1, Part 2, Part 3, Part 4). I agree with a good bit of what they write (it’s pretty anti-credit card). But in the latest installment of the series, they highlight a piece of proposed federal legislation to limit the amount of credit extended to students to an absurd $500.

The reality of college today is that it is expensive and the cost is rising rapidly - far faster than inflation, in fact. Federal grants are small and hard to come by. Most middle class families must borrow to pay for college.

Most personal finance writers consider student loan debt ‘good’ debt. Regardless, for most middle class families it is a simple necessity, good or bad. But another fact is that subsidized federal loans will often not cover the entire cost of a public school education. Families must fill the gap with something - unsubsidized loans the student takes on, parental loans, IRA withdrawals, second mortgages.

Credit cards and me in college

I personally racked up considerable credit card debt while in school. It began my freshman year. I was astonished to learn a credit card company would give me a card - an 18 year old with no income (this was in the early nineties). And I literally had no experience using one. I was remarkably naive. I was, in a word, the perfect mark.

By the time I graduated, the butchers bill was in the thousands on several cards. At one low point, I paid one card bill with a convenience check from another. It took a couple of years after graduation to get rid of all of the debt.

But I was grateful for the credit I was given. Grateful. Strange thing to say about credit card debt, I know. The sad fact is, credit cards helped me pay my way through college. They helped me get my degree.

I paid for food, gas, and books with my credit cards. That was money I didn’t have. Without credit cards, I may have had to drop out of school - at least temporarily.

Yes, I had a job in college. Yes, I took on student loans. I was even in the Army Reserve where you get paid for attending training once a month. But I couldn’t make ends meet on those alone. I used credit cards to live.
So for all the vitriol spit at credit card companies, for all the former students in serious debt, I think regulating the amount of credit students can get is wrong-headed. I’m all for clear contracts and terms. I’m all for eliminating double cycle billing and universal default. And of course I’m in favor of student education about credit. But if you squeeze a balloon here, it expands there. Limiting credit to students will have unforseen consequences.

And those consequences might be even worse than our college students graduating with credit card debt.

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After my post on how to get out of a home loan by exercising your right of rescission, I was asked where else that right applies. Is it possible to use it to back out of a car loan or personal loan, for example?

Sorry. The answer is an emphatic ‘No.’

There is no right of rescission for car loans or personal loans. This means you can’t return a perfectly good car within a certain number of days if you have buyer’s remorse. For personal loans, I suppose you could just take the money you just received and turn around and pay it back, but that’s subject to the details of your loan. For example, if there’s a prepayment penalty, you’d be on the hook for that.

So, sorry unhappy car buyers. I can’t help you get your money back.

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There’s a way for a person feeling ‘borrower’s remorse’ to back out of certain home loans. It’s called the right of rescission and you can exercise it on home equity loans, HELOCs, some home refinancings.

The right of rescission gives you three business days to reconsider whether or not you want to take delivery of the money from a loan. If you change your mind in that time, you’re off the hook for loan. You also are entitled to the return of any fees you paid to originate the loan.

Not surprisingly, there are lots of details on exercising the right of rescission. There are timing rules, rules on which types of loans it applies to, and rules on exactly how to do it.

What’s a ‘business day?’

The three day clock starts the day after you ‘close’ the loan. Three stipulations must be met for the clock to start:

• You sign all the loan papers

• You receive all the loan disclosures

• You get a copy of the notice of right of rescission

Usually, all the stipulations are met at loan closing. The clock starts, then, the next business day. Importantly, a ‘business day’ is any day that’s not a Sunday or federal holiday. Saturday counts as a business day, even if the lender isn’t open for business that day.

For example, you sign and receive all the papers Thursday August 30, 2007. The clock starts Friday morning, goes through Saturday, stops for Sunday and Labor Day, and resumes Monday.

Only applies to certain loans

The right of rescission only applies to home equity loans, lines of credit, and refinances with a different lender. You can’t use it on non-primary houses, refinances with your current lender, or when you first take out a mortgage to buy the house.

Things get complicated when you do construction loans and piggyback loans. I’m not a loan officer, so I’m not going to get into those situations.

When you do a ‘cash-out’ refinance, even with your current lender, you can always exercise your right of rescission for the cash out piece. Of course, if the refinance is with a different lender, you can back out of the whole thing.

Exactly how to do it

You have to notify the lender in writing - a phone call won’t do. Interestingly, you only have to get the letter in the mail by the three day cut-off. It doesn’t have to be postmarked by that day. I wouldn’t try backing out of a loan based on that technicality though. If you’re going to do this, I’d make sure the letter got a postmark.

Since this letter must get to the right place, make sure you have a good address for the lender and the right department at closing. If multiple parties took out the loan (e.g. husband and wife), they all must sign the rescission letter.

So the next time you take out a home equity loan for that new car and then realize you’ll be paying on it for ten years and reconsider, keep this post on hand. Seriously, though, if you sign for a loan and later read some evil clause in the inch-thick packet of papers you got at closing, this might come in handy.

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With the deterioration of the housing market, there’s been an increased interest in ’short selling’ homes. I didn’t know much about short selling, so I did a little research. I should say up front that I don’t have any personal experience in this topic (thank goodness); here’s what I learned, though.

What is a short sale?

I covered the definition of a short sale in a previous post, but this is a refresher. A short sale is the sale of a house that has a mortgage greater than the current market value of that property. The bank agrees to forgive the outstanding mortgage balance after the sale completes. Short sales aren’t a given - the borrower must negotiate with the lender the accept the short sale.

Why would the bank agree to a short sale?

A short sale is isn’t so much a win/win as it is a lose less/lose less for both parties. The borrowers don’t have a place to live anymore. The lender’s don’t get paid back all they’re owed. On the other hand, the property doesn’t go to foreclosure, which is good for both of them.

In a foreclosure situation, especially in a down market, the lender can expect to recover less than if the property is sold short. Maybe they’d recover 75% 50% in an auction, but 85% in a short sale. It’s obviously not ideal for the lender, but at least they don’t have to sell the property.

The drawbacks for a borrower

As you would expect, there are several drawbacks to short selling for the borrower. Perhaps the biggest one is that they no longer have a place to live and any money they did put into the house is gone. Also, a short sale is going to show up on their credit report. It’s hard to say exactly what the effect will be on credit score, but anecdotally it’s somewhere in the neighborhood of a 80-100 point drop. That’s nowhere near the penalty for a foreclosure, but still significant.

There’s also another pitfall - taxes. The IRS treats the forgiven mortgage amount as income, so you’re going to pay taxes on that amount. When you’re talking about mortgage-size amounts of money, this could be very significant.

Other things to note about short sales

There are several other points about short sales to note. First, a lender might balk at paying the commission for a broker, which could complicate things.

Second, it takes some work to convince the lender to accept a short sale. You’ll have to be several months behind on payments and most likely have to show evidence of significant hardship that caused you to get so behind. Your mortgage resetting to a too-high-for-your-budget payment isn’t good enough. If you’ve lost your job, divorced, or have medical bills, you’re in a better negotiating position. Well…regarding the short sale, that is.

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