Let’s say you were attracted to a new car by an ad touting its sexy styling. If you did no further research, on arriving at a dealership and perhaps taking a test drive it would be obvious whether the car fit your other needs such as passenger and cargo space, fuel economy and cost. Even if you bought the car despite some shortcomings, at least you had every opportunity to assess it.
The same is true of all “tangible” products which we can see, and touch, and even hear. Financial products, however, are “intangible”, and to evaluate them we must rely on our ability to process and understand financial information rather than on our other senses. Despite robust disclosure requirements, the information is often presented in ways which overemphasize any benefits and obscure the costs and disadvantages. Here are just a few examples of current “pitches” and how to avoid paying for financial products you may not need.
Refinance your mortgage now! Rates will never be lower!
Despite the decline in housing prices, there are plenty of homeowners with enough equity to refinance their mortgages, and it is true that mortgage rates are ridiculously low. But simply getting a low rate may not fit with other goals. Consider the two primary benefits of low rates – reducing monthly costs or reducing the mortgage term and paying off the mortgage faster.
If minimizing monthly costs is more important, then going to a low-rate, 30-year mortgage may be the best option. This would likely extend the life of the mortgage but there are other, more flexible ways to later reduce the mortgage term (see below). If the more important goal is paying off faster, then taking advantage of lower rates to refinance at a shorter term is the way to go. But a shorter term mortgage, even at a lower rate, could increase the monthly payments. Accomplishing both goals may not be possible.
The challenge is that any refinance should be compared to the remaining portion of the current mortgage rather than the original terms. If you have had your 30-year mortgage for five years, you are further into the amortization schedule and more of your monthly payment is now going to principal. Refinancing to a new 30-year mortgage would reduce the monthly payments but lengthen the term and may result in higher total costs over the life of the loan.
Important Savings Notice! Change of Payment Frequency!
The mailer claims that I could save 6 to 10 years and $85,320 just by allowing the vender to pay my mortgage every two weeks rather than monthly. There are no upfront fees and the Q&A even acknowledges that the same results could be achieved without the program, while noting that it is unlikely I would be disciplined enough to do it.
The problem is that the sample comparisons bear no resemblance to the actual mortgage. Our solicitation presented savings based on a 30-year, 7% mortgage (even today!). Unfortunately, we had just refinanced (which was the source of the solicitation) to a 15-year, 3.25% mortgage. Not only would bi-weekly payments save far less and slightly reduce the term, but there are fees charged for the “service”.
As is often the case, the traditional method works far better. Make an extra payment to principal each year in the amount of your regular payment, skip the service fees and retain more flexibility should your circumstances change. This simple step will reduce a 5% 30-year mortgage by 58 months and save 19% of the total interest, and will reduce a 7% 30-year mortgage by 77 months and save 25% of total interest. The savings for a 15-year mortgage are much less, only reducing the term by 20 months on a 5% loan and saving 13% of the total interest.
48% of All Mortgages Foreclosed Due to Death, Disability or Critical Illness!
The reference cited for this statistic is conveniently from 2005, prior to the recession and housing meltdown. The offer is for insurance coverage to “protect you from losing your home in the event of premature death, disability, and/or unemployment”. Even better, there is no medical exam to qualify (there are some medical questions) and all premiums will be returned if the insurance is kept in place and the premiums paid until the mortgage is paid off.
The unemployment coverage, though, only pays the premium for the insurance, not the mortgage payments. And while the premiums may be returned, the insurer has had your money the whole time and all fees (and each payment includes the premium and fees) are not returned. Besides, the coverage amount declines with the mortgage balance as the mortgage is paid, so insurance that is expensive to begin with becomes even more expensive over time.
Despite any fancy name, this is just a version of “credit life insurance”, which is widely recognized as one of the most expensive types of coverage. The beneficiary is the lender, not your family. Those simple medical questions will disqualify coverage for any of the indicated ailments such as high blood pressure, heart attack or diabetes. A much more cost-effective and flexible way to protect your family is to work with a financial professional to identify your true insurance needs and purchase term or other life insurance to meet those needs.
Transfer Your Credit Card Balance and Get a 0% Rate!
Even better, any new purchases made during the 0% period will also get the 0% rate. What a great way to get out from under high credit card interest. They even include checks to make it easier.
I will confess that I took advantage of such an offer a few years back, but that offer included a 3.99% rate until the entire transferred balance was paid off and no transfer fee. Those offers are very rare these days, and on current offers the rate goes to the normal high rate (upwards of 20%) at the end of the low rate period. There is a 3% fee for all transfers and transferred balance amounts do not earn any miles or reward benefits. Moving large balances, adding to available credit and even closing credit accounts can have odd impacts on your credit score. And is it just me or are those transfer checks just an invitation for mail thieves to hit your credit account?
Look closely at any transfer offer and consider aggressively paying off credit balances with the current lender. Utah State University offers www.powerpay.org, a free website that analyzes debt balances and terms and creates payment plans to get out of debt faster.
Don’t get sucked in by the financial carnival barkers. Be a discriminating buyer of financial products and solicit independent analysis and advice if you need help.