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Thursday, February 25, 2010

Reality Check (Part 1 of 3): The Scam

Feb 9th, 2010 | By Michael Hinckley | Read more in: Fearless History

Welcome to the first part of a three part series (The Scam, The Myth, and The Truth) on life in America. This episode will cover some of the scams, or misleading information, used to disseminate fraud or deception, which is being perpetrated upon the American people as a whole.

I will examine the “conventional wisdom” of some major issues and reveal the reality behind them as supported by fact. I am not a financial expert, nor would I ever want to be, but here are some realities and cons you should be aware of.
Scam: Credit scores are a reflection of your worthiness as a credit holder and losses to that score will forever adversely affect you.

Why it’s a scam: Your credit score, and increasingly including your criminal record (including moving violations), are controlled by three credit agencies all of which use an algorithm to determine your “credit score.”

This score is given an arbitrary number in an arbitrary scale, thus “entitling” you to better credit terms.

You, as a consumer, often have very little influence over the number you are assigned, as witnessed by the “credit crunch” of 2008.

Consumers who enjoyed high credit scores and who behaved in the predictable way that markets and lenders like had their credit risk “reassessed” and those who had high balance credit lines (in use and not in use) saw their credit line reduced dramatically. This reflects in the credit reports, and credit agencies lowered their risk rating, resulting in a cascade of credit limitations. Certainly, high-risk credit card users were being squeezed, but that is part of the risk/reward analysis for companies like Capital One and Providian. But, according to “conventional wisdom,” so-called good credit risks should be immune to such problems. Only they weren’t.

The Reality: Credit scores, and credit rating in general, do not accurately reflect your worthiness or honor as a person, but there is an artificial stigma attached to “bad credit” holders. In reality, there are few times in a person’s life that credit is actually necessary for the average American — purchasing a house, for instance or (in some cases) purchasing a car — otherwise, it is a superfluous practice to keep a credit card or other line of credit at all. Credit is, however, good for lenders, speculators and banks because they are essentially recouping money without having to work for it — they get something for nothing as any good scam artist would.
The Scam: Automatic overdraft protection prevents embarrassing collection fees.

Why it’s a scam: Banks automatically apply this “protection service” to all account holders and there is no way to opt out. According to Payment News citing a report by Consumers Union (a branch of Consumer Reports), the average charge for overdraft fees is $27 and banks collect some $7.8 billion in fees each year. Comparatively, “returned check fees” or fees incurred by check-writers who “bounce” checks average just $17 a check, with criminal consequences for consistently writing bad checks (called “kiting”).

To make matters worse, banks often re-arrange either deposits or credits to an account in order to recoup more money from their account holders. In some cases, banks’ “policy” prevents credits to an account from being counted until close of business on the day they arrive — despite the fact that banks technically already have the money in their ledgers. In other cases, rather than processing checks as they come in, or in order from smallest to largest, banks do the opposite: largest to smallest. The idea, they claim, is to ensure that big ticket items such as mortgage, rent and car payments are made without any hassle while the small debits are probably just incidentals. What they omit from that statement, however, is that it is in their interest to get two, three, four or five overdrafts by banks’ “reordering” of debits than if they were processed differently.

The Reality: Congress is now wrangling over a bill to prevent such outrages (such as the 1000 percent fee on a $3 McDonald’s transaction) by allowing consumers to opt out of such “overdraft protection” schemes. Meanwhile you can protect yourself by joining a credit union or similar collective. Also, paying cash for most purposes can prevent much of these headaches — the debit card was a huge boon to the banking industry in the arena of overdraft protection fees — and writing checks for the rest of your obligations. Similarly, if you put 5 to 10 percent aside PER PAYCHECK into a savings account, you will not only build up your own, interest-bearing “overdraft protection” but will quickly adjust your spending habits to make do with the slightly smaller paycheck.
The Scam: Homeowners are “real” Americans/Citizens/People.

Why it’s a scam: Ever since the end of WWII, the “dream” of owning a home has persisted as part of the American way. While this was true for most of the 20th century, in reality, the market crash, housing bust and credit crunch of 2008 have revealed serious flaws in the house-owning myth. First, compared to the average price of a home in 1947, the cost of homes has sky-rocketed. According to the Department of Defense analysis in 1950, the average GI Bill recipient should purchase a home that is no more than 3x their annual salary. According to the Department of Labor Statistics, the average salary in 1950 was $10,000. 3 x $10,000 = $30,000. By comparison, the average salary of an American worker in 2008, according to the IRS, was $40,000 per year. The median cost of a home in America that same year was $215,000.  $215,000/ $40,000 = 5.035x the average salary.

On top of the higher salary-to-cost ratio, property taxes and increasingly unstable market values make owning a house a difficult prospect. Add to that the possibility of foreclosure or balloon payments on ARM mortgages as well as many banks’ reticence to negotiate on the contract and you have a recipe for disaster.

The Reality: Meanwhile, renters have never been in a better position. Many former home owners who can’t afford to live in their houses and are having difficulty selling the property in a leaden market are more open to renting at “cost” versus at a profit. For those owners who are “upside down” on their house, more and more financial analysts are advising — or perhaps encouraging — owners to sign the house over to the bank and to rent.

Certainly it will impact your credit score, but in five or so years when you are ready to purchase a new home, your credit score will be miraculously healed (see above). Some analysts do, however, help perpetuate the myth that walking away from a house you can’t afford — especially if you are unemployed — makes you a loser. In my book, going into debt for property you’re going to lose anyway is a losing move, but there you have it.
Con: Discuss your situation with credit card companies and they can work with you to reduce your payments.

Why its a con: Credit card companies, particularly ones that send out mailers, are not interested in helping you out anymore. They feel that the ship of credit is sinking and they should get as much as they can before you finally default — they’re working on the assumption that you will default eventually, by the way. In the mean time, they set up a cascading system by which they can a) increase your interest, b) lower your credit limitand/or c) assess fees upon your outstanding balance to ensure you default. In short, the credit card companies re-negotiate the terms of your contract while you retain almost no rights whatsoever.

The Reality: The reality is you can stop payment on your cards if it means the difference between negotiating in good faith or being stuck on a never-ending hamster wheel of debt. If you can make more than the minimum payment, ask the company to close the card, freeze the debt’s amount and enter you into a repayment plan. If they won’t, you can let the phone ring and ignore the calls until the credit card company sells off the debt to a collection agency. The collection agency buys your debt for a fraction of its value and is more than willing to negotiate, often saving you 33 percent or more. The upshot — you save money and you stop receiving calls. It will hurt your credit score, but that might not be a bad thing.

Ed. note: If you do negotiate a settlement with either the credit card company or a collections agency, get from them in writing that when you’ve paid per your agreement, the debt is paid in full.

Many financial “experts” engage in emotional, not rational, arguments in regards to your finances, especially if you’re defaulting. They use emotionally-loaded words such as “obligation” and “duty” while completely absolving money lenders, banks and the groups in power of any responsibility in the financial mess we’re in. To make matters worse, corporations which hold your debt can write off your account as a loss up to five years later. They get their money back from you the taxpayer.

And to make matters worse, those same banks whose credit roulette caused the 2008 financial recession got taxpayer “bailout” loans AND are rewarding their top players (who engineered the economic debacle) with multi-million dollar bonuses.
Who is really the victim here and who has the “obligation” to whom?

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