How do the Federal Interest Rate Cuts Affect My Student Loans?

Yesterday we discussed whether the recent action by the Federal Reserve to cut interest rates represents an opportunity for homebuyers to save money by refinancing their homes. Today, we will discuss what the rate cuts mean to your student loans. Unfortunately, after doing some research, we have found that how banks determine the rate as to which they will lend you money for school varies from financial institutions and different lending products. In addition, many other factors are used to help banks set your rates like co-signers, credit history, variable and fixed products, and percentage of origination fee (a percentage of the total amount of the loan). So, stay with us as we plow through the nontransparent world of student loan lending.

What Number do Banks Use to Set Their Rates?
Unlike home loans – where you have a sense of what your interest rate will be by easily checking what the national average is for products like a 30-year fixed loan – student loans use different benchmarks to base their lending. We will discuss three of the main benchmarks used that will hopefully help you get a sense as to whether refinancing your student loans is the right thing for you or not.

1) Cost of Funds Index (COFI)
Currently, my private variable student loan rates are based off the COFI. The COFI is a regional average of interest expenses incurred by financial institutions that is used to calculate variable rate loans. To our knowledge, the COFI rate is a private calculation between banks and is not available to the public. Most lenders readjust your rate quarterly (every three months) based off this average. Most importantly, the COFI is not directly linked to the federal funds rate, which means the index does not move in the same direction as the recent rate cuts. In fact, since January 1, my student loan rates have actually increased. You can easily find out how your student loan rates are set by calling your lender and asking, it worked for me.

2) London Interbank Offered Rate (LIBOR)
Many lenders will use this rate if you decide to consolidate your private student loans with a variable rate product. The LIBOR rate is the interest rate the most credit-worthy banks around the world charge each other for loans. The rate fluctuates throughout the day based on the market, similar to stocks. Most Student loan lenders that set their rates using LIBOR will readjust their rates quarterly, based on the LIBOR rate + an additional percentage depending on factors like if you have a co-signer, how big of a origination fee you choose etc. For example, if I were to consolidate my student loans now my rate would be based of the LIBOR Rate from the start of the new quarter (January 1) which was at 5.12% + 3.14%(call your lender to ask what this additional amount will be) for an interest rate of 8.26%. It is important to remember that the LIBOR rate moves independently of the federal funds rate.

3) Prime Rate
The prime rate is usually about 300 basis points (or 3 percentage points) above the federal funds rate, which again is the rate that has recently been cut. Some student loan lenders and most credit card companies will use this rate + an additional percentage (based on the same factors listed above) to determine the rate as to which they will lend to you. Currently the Prime rate is around 6% and because this rate runs in sync with the federal funds rate, it is very easy to track. A consolidation that uses the Prime rate will likely be your cheapest current option, given the recent cuts.

What Does All of This Mean, Should I Consolidate My Private Student Loans?

We feel that if your rate is around 7-8% for you current private student loans, you will have a hard time finding a better rate. For those of you with decent credit histories and student loan rates well above 8%, it will not hurt to shop around a little. Keep in mind the different ways banks set your rates as described above, to help give you a sense of how your rates will fluctuate given the economy in the future.

Remember, the lowest rates generally will come with requirements of a co-signer, in addition to an origination fee. Most lenders will only allow you to consolidate your private loans with them once, but you can always use a different lender to consolidate in the future. Also, keep in mind when you consolidate, your loan term with some products will reset you to an additional 20 years. Therefore, if you have been paying your loans for 5 years and you consolidate, you will take the balance you currently have and stretch it out for another 20 years, meaning more interest payments. Just like home loans, don’t be afraid to ask about a fixed rate, generally you will be able to get a fixed rate of about 8.4% with a 1% origination fee and a peace of mind knowing your monthly payments will never change.

Lastly, before you say yes to a consolidation, do the math to determine the origination fee you will have to pay is less than the savings you will acquire with the lower rate. To figure this, take the origination fee minus the yearly amount you will save in monthly payments (click here for a loan repayment calculator) to ensure you will be saving more with the lower rate than you will be paying in fees to obtain the loan. $

The Federal Reserve Interest Rate Cuts and Home Refinancing

At the request of a Milk Your Money subscriber, we are doing a two part series on the pros and cons of refinancing your loans in light of the Federal Reserves recent interest rate cuts. Today, we will focus on refinancing your home loan. Should you take advantage of the rate cuts and refinance your home? Tomorrow, we will do a piece on what the rates cuts mean to both your student loans, what actions should you take? Click here to subscribe to Milk Your Money’s daily posts in your email, so you don’t miss out on tomorrow’s follow-up piece.

What are your Plans?
Do you plan to pay off your mortgage in full? Will you be living in your home for at least another three years? Do you want to pay off your mortgage faster? These are all legitimate questions you should ask yourself before refinancing your mortgage.

It’s important to understand that when you refinance your home with a lower interest rate, the reduction to your monthly payments will not be dramatic, thus the number of monthly payments you intend to make at your reduced rate should equal a higher figure than the fees associated with refinancing. In other words, most banks will charge on average around 2% of the entire new loan in closing cost (similar to the fees you paid when you closed your first home loan). As an example, if you refinance your current home at $200,000 with a savings of $85/month due to the reduced interest rate, you must live in your house for at least 4 years to equal the $4,000 (2% of loan in closing costs) to start benefiting from the refinance. You can now find different refinance packages that will offer lower costs to close as well as no costs, but these packages general come with higher rates. What we can gather from this is, if you do not plan on living in your house for years to come it is most likely not beneficial for you to refinance.

If you are lucky and have some extra money to pay off your loan faster, you can refinance your home at the lower interest rates to switch your loan to lets say a 15-year fixed loan. This will allow you to have slightly higher monthly payments but will save you thousands in long-term interest due to the shorter loan term and the reduced rate. This is highly recommended when affordable.

Do You Currently have an Adjustable Rate Mortgage (ARM)
ARM home loans - which have caused our current credit crisis – are loans where your interest rate will readjust to higher rates due the terms in your current loan, which increases your monthly payments, unlike a 30-year fixed loan. If you currently have an ARM loan on your home and your rate is set to increase in the near future, refinancing your mortgage is probably a great idea. The benefits to this are two fold. First, you can avoid higher monthly mortgage payments by refinancing to the current lower rates and pay off more of your principal with each payment. Second, by refinancing your ARM loan to a fixed term loan, you can rest assured that you can continue to afford you mortgage, which is piece of mind that does not have a price tag.

Do You Own at Least 20% of Your Home?
Private Mortgage Insurance (PMI) is added to your monthly payment if you do not own at least 20% of your home. PMI payments can range anywhere from $100/month - $300/month depending on the size of your loan. Many of you may have piggyback loans, which are loans of two amounts typically one loan for 80% and another for 20% (this loan will most likely have a higher rate and separate terms), this type of borrowing allows you to bypass paying PMI. You may want to consider refinancing your loan if you have a piggyback product if the value of your home combined with your previous principal payments, gives you 20% ownership of your home. This will allow you to cash in on the lower rates as well as combine your loan into one fixed rate loan with no PMI, a win win situation.

Conclusion
Take all of the above into account when considering refinancing your home and remember to look beyond your current lender when you are shopping for interest rates. Other lenders may be able to offer you lower rates in addition to reduced closing costs.

Check back tomorrow when we discuss what the rate cuts mean to your student loans. $

My Credit Card Interest Rates Raised for No Reason

Credit card companies are coming under fire lately, and in our opinion, deservedly so. Credit cards of all kinds are now taking advantage of the 10 pages of fine print you agree to when signing up for a new card, which gives them the rights to basically do whatever they wish to your interest rate. It is not uncommon now for good customers, those that pay their card in full every month on time, to have their rates raised. Sound unfair, well it is. Because of the problems associated with the mortgage mess and even hedge funds, banks are now looking for other ways to balance their books, and they are turning to the average consumer.

Congress is now in tune to the problem and has held various oversight hearings. However, we feel it is unlikely that any major reforms in the industry are likely during the election year, but attention to the issue will only heat up. Half of Americans carrying total credit card debt average around $10,000 each (according to the U.S. PIRG). Because of the enormous amount of debt people are facing in other areas of their life with student loans, ARM mortgages etc., it's hard for anyone to afford jacked interest rates on their credit cards.

Common Practices Credit Cards are Using to Get More From You

Double-cycle billing: This is a practice, which is confusing when explained in plain English, let alone when sifting through the fine print. Here, banks issuing credit cards will charge you interest on the entire amount you charged during a billing cycle, regardless of the amount you actually pay off. For example, if you charge $2,000 one month and pay off $1,900 leaving a balance of $100, the bank will make you pay interest on the full $2,000 in the next month and beyond, until the remaining $100 is paid off.

Universal Default Pricing: This is a practice where banks are taking advantage of good responsible customers. Regardless if you have never missed or had a late payment on your current credit card, companies may now raise the current interest rate on your card if you are late on a completely different bill with a completely different company. In addition, they can raise your current rate if your credit score falls.

Zero-Tolerance Late Payment Policies: Little leeway now is given to customers from certain financial institutions. You can now be charged the same late fee for being an hour or a day late as those customers who are months late on their payments. Keep in mind that due to the magical fine print you agreed to, any late fees may also result in a penalty rate imposed on your account, which according to CNN can top 30%, which can be applied to not only purchases you are going to make in the future, but also the ones you made last week!

Suggestions
Milk Your Money is troubled by these practices, which are becoming more common, and has a few recommendations you should take as a cardholder to ensure you are not a victim of these rate hikes.

1) Read your statement each month. Look to make sure that the interest rate remained the same from the previous month. Look to see if any fees or penalties were charged to your account. If any of these appear on your statement, call you company and get explanations, you many see these charges dropped, just for asking.

2) Stop using multiple credit cards. The more credit cards you are using, the more likely you are going to "break the rules," with one of the companies. For example, you might go over your credit limit or forget a payment. Focus on using one card and really understand the terms of the card to ensure you use the card only to your advantage.

3) Forget about rewards programs if you are paying interest month to month. Rewards from credit cards should only be taken into consideration for those that are truly responsible with their spending. Rewards average around 1% of your total purchases. This is a number, which is wiped out with one late fee assessed to your account or a month-to-month interest payment. Companies love that people are obsessed with earning frequent flyer miles or any other reward when using a card, many of these people don’t look at their credit card statement, but do look at how many miles they have earned. Money is money, so treat it that way.

4) Call your card issuer and ask for a lower rate. We have stressed this before in an earlier post. Nearly half of the people who call into their company asking for a reduced rate are successful. This is an amazing number! Credit card companies spend so much money marketing their cards and gaining new customers, that once they have you, they don't want to lose you. Take advantage of this and ask for a lower rate today! $

Five Things to Buy New and Five Things to Buy Used

In our quest for consumption, we can readily come up with a healthy list of things, given the cash flow, we could run out and buy right now. Let's imagine for a moment that’s possible. What would you buy? If you’re like us, that list spills over into electronics, home theater and sporting goods. When going through the process of shopping, some will simply see things they want and make impulsive purchases. I had this happen to me not even a week ago with a lob wedge that I had an eye on. I can barely call myself a hack so purchasing a $50 golf club was already a little out there. On top of that, it was on sale for $30! I had to go through the agony of making some perfect text book practice swings in the store, imagine it in my bag, visualize myself making a few beautiful pitches on to the imaginary greens, then put the club back on the shelf and walk away. Let me tell you, it’s a man's equivalent to giving birth. Maybe not, but still pretty difficult.

Impulsive purchases are probably single handily the cause of Americas credit card debt problems. Remember the two-week rule we mentioned in an earlier post? For those items that you know you will enjoy and get your money’s worth, perhaps your decision of purchasing will ease if you find the product used and cheaper. We have recommended five items that you may be better off buying used and five where buying used is not worth it. Now, let's take a look at what is best used and new.



USED

1. Golf clubs. You saw that coming didn't you? There are people out there that have their entire business built around reselling used golf clubs. A woman I work with was somewhat apprehensive about buying a used club, but ended up going to a manufactures' outlet site and got one that was "like new" and it was in pristine condition. This is an example of investigative research to save some pretty big bucks. Clubs are a lot like cars in that if you wait for the latest club to come out, the one before it get substantially reduced in price. Ebay is not a bad way to go about this. Just buy steel irons and be sure the drivers and woods show a picture.

2. Computer Monitors. I have a sick obsessive fascination with having as much desktop real estate as possible. If I could justify the cost, I would use two 30" monitors at every machine I have. Obviously, that’s an obscene amount of monitor, but still, it doesn't hurt to look! (Looking is free.) To have reasonable success with buying larger monitors, I go to the Dell Outlet page to find good deals on monitors of a larger persuasion. Don't be afraid of buying a monitor that has been refurbished! These monitors undergo an extensive quality check before they go out and the risk of getting a bad monitor is extremely low. The worst you can expect might be a bit of slight marring on the bezel, or frame. To me that's fine, if I can save $150-200 dollars. The technology these days for LCD is so run of the mill that consistency is near 100%. This outlet list changes often so check back regularly.

3. Books & DVDs. To be completely honest, a large part of my entertainment budget goes towards books. A few DVDs here and there, but not many due to Redbox and Blockbuster Online. However, for my book indulgence, I do a sneaky thing. I go to the big fun bookstores (Barnes and Noble, Books-a-Million, Borders, etc) and I buy absolutely nothing. Again, like the golf clubs in the sporting goods store (see above), this is extremely difficult to not give in to the instantaneous feeling of satisfaction. What I do is write down the ISBN number and go look on Amazon for it. I do this for two reasons: 1) I will get the same book, in nearly the same condition, which will be close to 50% off what it was in the store; and 2) It allows me to have a buffer of time to be sure that the book I am seeking is something I truly want/need. Waiting to purchase lends time to take in to account reader reviews and it's amazing these brick and mortars are staying in business.

4. Vehicles. This is somewhat a no-brainer for anyone with a sliver of frugality within them. It’s a widely known fact that a brand new car depreciates at least 3-5% as soon as you drive it off the lot. Then it loses 15-20% of its value every year after that. It’s not uncommon for people now to owe more on their car than it’s worth, don’t be one these. While some say that a car is an asset, it is also a depreciating asset. In fact, it is the only “asset” people willingly borrow money, at interest, while knowing it will depreciate. Get a vehicle that’s 2-3 years old and let someone else take that hit, just make sure that the car was well cared for. That new car scent can be bought easily. Taking care of your car will save you tons over the long run either way. Buying new does absolutely nothing but throw good money out the window at about $12 a day, in addition to gas, maintenance, etc, etc.

5. Wall Art. Hopefully you don't think we are suggesting that you are like the Amish, so by all means decorate! There is quite a bit of decent paintings, photographs that you can find out there at decent prices. I feel good about buying these used as there is only so much you can really purchase before your walls are full and your need goes down. Kept within your budget and at the right places, this can even be a rewarding hobby. Check The Wall Art Store or All Posters.

NEW

1. HD TV's. This is an interesting category as it could be easily argued either way. Some will say that it's just like computer monitors and the technology is so stable these days that you can’t go wrong. I disagree somewhat in that TV's have a great deal more going on under the plastic skin. You wouldn't think of it, but they actually have some pretty advanced chips in them that lend themselves to widening the spectrum of quality across the field. A higher quality, name brand, HD TV is going to look noticeably better than a lower end one. Without getting into a long post about the pros and cons of certain sets, there is still the argument that TV's are getting cheaper almost by the day. Find a TV you like at Best Buy, note the model number and then go home and look online for it. These prices will have dropped significantly online, then in one-month see if they have come down again at Best Buy. Again, Amazon has nice selection as does Costco. (Let us know if you find that 60" Vizio for less than $2k!)

2. Computers. I am a bit of a stickler for computers but I also do quite a bit of tweaking and know my way around pretty well. Having said that, there are two avenues to explore: DIY - Go to Pricewatch.com and get your parts. They do a really good job of giving you the power to select the parts you want in the price range that works best for you. You can also see price trends for more expensive items and see where the gouging drops off. NewEgg.com also has some pretty good deals for more everyday items.

Buy Whole - Of all the computer manufacturers out there, it is not easy to simply recommend one and have that answer all the needs of the average consumer. If you need just an eMachine, go to WalMart and be astounded by the savings. For an overall positive experience and a decent warranty, buy a Dell. You can snag some great deals from their Outlet Store, but new machines are a good buy as well.

3. Clothes & shoes. Just spend wisely here. Not many would buy used clothes and shoes given the choice. You don't have to buy everything from the most expensive trendiest store, outlet department stores should be ok no matter your dress code. I have to wear a shirt and tie to work everyday (excluding casual Fridays) and I rarely pay more than $10/shirt and $10/tie. I’m serious, I’m not wearing the worst of the worst either. Occasionally, check out the back of stores where the clearance sections are, you will be surprised. If you feel differently about this, please leave a comment and let us know.

4. Cell phones. Used cell phones are sold for three reasons: they don't work, they are awful quality, or they are stolen. Do the research to see what you like best and stick with it. Get a modest plan, and take advantage of a renewal deal. Verizon has a Two Year Renew plan and it’s pretty nice (however, for the consumers sake we would like to see these contracts be reduced to at least 1 year). I usually make a point of not looking at other phones for the 1st year, and then as the second year starts up, I begin looking around for what is nice. Just don't go over the top with features and be wary of rebates!!

5. Furniture. Much like clothes, you can't really feel good about buying a couch that someone has obviously made a large part of their life on (including their children). It's too difficult to bring it back to "like new" and the fabric will eventually go back to its engrained smell. Not to mention lots of furniture made these days is not of solid wood, but of particleboard, that doesn’t have the lifespan of wood. Spend the time to do research and know your budget limits. Set aside a certain amount of money to work with and stick to it. Don't feel like you need to furnish your entire house at once and PLEASE don't get suckered into a store credit card. Unless you can pay it off and keep it off, it will hit your credit report to continually opening new lines of credit. Buy a decent bed first and go slowly from there. The furniture will have more meaning to you and will last longer because of it. The only used furniture I could feel good about recommending would be hard wood antiques. Even then, I would need to do a great deal of research to justify it. Exception to all of this is college, beer taste just as good on a used couch.

Have other suggestions about what is best bought Used or New? Drop us a line or leave a comment! $

Wachovia's "Way2Save" and Bank of America's "Keep the Change" Saving Programs

The personal savings rate in the United States is around 1%, an embarrassing number for one of the richest countries in the world. Why aren't we following the saving generations that came before us? We can think of a few reasons: ARM mortgages, easy access to credit, ipods, 5+ year car loans, and rising college tuitions. As this troubling trend of insufficient savings continues, banks have created new ways to encourage saving, but should you enroll?

Wachovia's Way2Save
Wachovia will automatically transfers $1 from your checking account into a special savings account each time a purchase is made with a Wachovia check card, an online payment is made or an automatic draft takes place. Wachovia will contribute a 5 percent annual bonus in the first year and a 2 percent annual bonus each of the next two years, up to $300 annually.

Bank of America's Keep the Change
Each time you buy something with your Bank of America Check Card, they will round up your purchase to the nearest dollar amount and transfer the difference from your checking account to your savings account. Bank of American will match your savings for the first 3 months, to the penny. After that, they will continue matching 5% a year until a maximum of $250 per year is reached.

Deal or No Deal
Whenever a bank is offering free money, we tend to get a little leery, as is the case with these programs. While they are both are attractive on their face, we have have determined the possible problems outweigh the rewards for most people.

Problem 1) We mentioned in an earlier post the significance of creating and sticking to a monthly budget, both programs make this much more difficult to do. How are you supposed to stay within your created budget when money is constantly and sporadically leaving your checking account? Wachovia's program takes a $1 out for every purchase, I would be willing to bet the number of purchases most people make in a month is a higher number than the amount most people currently budget into their savings. Meaning, you can't save what you can't afford.

Problem 2) Overdraft fees are a pain and as I understand these programs, banks are going to cash in on us. Say you saved $100 this month using Bank of America's Keep the Change program. Congratulations, but hopefully there’s something left in your checking account when you go to make your next purchase. These programs make it nearly impossible to keep track of your accounts, unless you are checking them online daily. The last thing you want to do is pony up $30 in an overdraft fees because the money originally in your checking account is now nesting in your savings. If you choose to participate in these programs make sure if your account goes overdraft it then pulls from you savings at no charge (but if this happens, what's the point?).

Problem 3) These programs can give people a false sense of security. Just because you are enrolled in a savings program does not mean your financial planning is over. We fear people are going to have an "I'm saving more by spending more" attitude.

Conclusion
To really encourage savings, banks should make an effort to encourage people to shop wisely, stay within their budgets, and treat savings like a utility bill. Unless you are one that is very disciplined and can use these programs only to your advantage and not the banks, should you choose to enroll. $

Gassing Up

Everyone knows of a gas station in their area where they can save a couple cents on a gallon of gas. Have you ever wondered if it is worth going out of your way to fill up at these cheaper stations? We have determined it is not.

Idling
I live close to a Costco that offers its members reduced gas prices of about 5 cents per gallon of gas. Every time I drive by this particular Costco there are lines of cars waiting (idling) to fill up on these unbeatable prices. It’s counterproductive to sit in your car with the engine on for the sake of saving money on gas.

Mileage
I have no doubts that many of these same people waiting in lines at this particular Costco pumps, drove more than 5 miles out of their way just to fill up there. Remember that 5 miles out of your way in one direction means 5 more miles back. If you get around 25 miles/gallon and gas is at $3.00/gallon, you just spent $1.20 in order to save approximately 75 cents on your gas.

Wear and Tear
Cars do not last forever and as minimal as it sounds, every mile your are going out of your way to save on gas, you are in turn taking time off your cars lifespan. For each stoplight you hit, or turn you make, you are putting stress on your car. Have you ever heard the saying, "For every cigarette you smoke, you take a minute off your life?" Well, this is the same concept. The price tag placed on wear and tear maintenance on your car will by far out price the savings you hoped for when filling up.

Time
Time is valuable, and if your life is anything like ours, free time seems rare. Don’t waste your time in lines at the pumps or driving miles out of your way in traffic to get there. Find a station that is on your route and close to you.

Common Sense
Common sense says it's best to fill up at a gas station on your route. Stop worrying about saving a couple cents here or there, and do what is most convenient for you. I always fill up at the same station on my way home from work, try to get into a similar routine and find comfort that gas prices are high and there’s nothing you can do about it, so stop fighting it. Americans have this strange obsession with gas prices and will go to extreme lengths to save a few dollars. However, the value of their dollar fades when these same people are splurging on things like DVDs they won't watch or books they won’t read. A dollar is worth the same no matter what your spending or saving it on, the faster you understand this, the easier it will be to make wiser financial decisions in all areas of your life and not just on gas. $