Using a Home Loan for College is a BAD idea!

I see a lot of advertisements from banks that encourage people to use a second home loan or HELOC (Home Equity Line of Credit) to pay for their children's tuition. To me this is a bit predatory and is a financially bad idea. I see many problems with this:

• You are borrowing against your home to finance a piece of paper
• You are responsible for the payments--not the child
• You jeopardize your savings and retirement
• HELOC's have a variable rate
• The interest is usually higher than a student loan

To borrow against your house to pay for education is a bad move. If the child does not complete college then it is wasted money you are stuck paying. If you suddenly can't afford to pay you could eventually lose your home.  At the very least you could wreck your credit for a few years by being late.

Secondly you are stuck with the payments. Regardless of what the child does in life you have to pay for it. Doing this means that you also have less money to save towards retirement and other goals since you have that extra payment each month. This is even worse with a variable interest rate that will eventually rise over time.

The bottom line: DON'T DO IT! 

I can completely understand that parents want to help pay for the child's college education. There is nothing wrong with that. By doing so you need to be smart about it. It is more than just money. Legal liabilities, consequences of it going wrong, and relationship with the child have to be considered when making this decision.

My solution: Use student loans in the child's name.

Who says you can't make payments on those loans instead? You can also make an agreement that you will pay the loans only if he/she completes their degree. If they drop out the foot the bill (or whatever other arrangement you want to make).

Advantages of using student loans:

• Once graduated they can consolidate to one payment and a fixed interest rate
• They get a tax write off for the interest on the loan
• They can be deferred during financial hardship
• If they pass away the student loans are forgiven (the home loan is not!)
• No payments are needed during school. You can save more for retirement during those years.
• The child gets a good credit from the loans.
• You only borrow what you need. Amounts available fluctuate with tuition costs. Home loans fluctuate with home values (and can be a problem!)

This need not only apply to children. You can do the exact same thing for yourself too. Making the smart financial choice makes life easier in the long run. I have student loans myself and don't regret it. They allow me to make a lot more money than I would otherwise and have a very low fixed interest rate. Make the savvy choice!

15 year versus 30 year mortgage

Since I was recently house shopping I have decided to share my thoughts on mortgages. I am not a fan of adjustable rate or interest-only mortgages as they tend to only cause financial trouble or even crisis later on. I only support fixed rate, fixed term mortgages and that is what I have on my foreclosure that I just bought.

When I was looking at houses I decided that a 30 year mortgage was best for me. I am over 30 years away from retirement, have a lower payment, and can always add principal payments if I desire. I like the flexibility. Having the lower payment allows me to tackle higher interest bad debts and get them gone faster. I end up saving in the long term.

If you are house shopping and no longer have bad debts (credit card, auto loans, etc.) I would suggest a 15 year mortgage if you can afford it. You will save a small fortune in interest in the long term and the monthly payment goes away a lot faster. You should absolutely get a 15 year mortgage if you are 20 years or less away from your target retirement age. The ideal situation is to have the house paid for by the day you retire at the latest.

That said, their are exceptions to the above rules. If I knew that I would be selling the house in a few years after I bought it or going to use it as a rental property after I moved out then I would do a 30-year mortgage. The tax breaks and more positive cash flow from a rental make sense in this case. If your cash flow becomes exceptionally good you can always accelerate the payments on principal.

The best way to pick the term of your mortgage is to take a close look at your personal financial situation. Ask yourself these questions:

• Would I save more in interest by taking a 30 year term and paying down other debts?
• How much of a monthly mortgage payment can I afford?
• When is my target retirement date and how close am I to that date?
• When do I plan to sell the house (if at all!)?
• Am I going to need to borrow money to do remodel or repairs on the house as well?
• What are the tax, insurance, and maintenance costs each month?

You should also consider your tax bracket and tax breaks from the interest. This is only a secondary concern but does changes the numbers a bit. It is best to avoid paying interest when you can but sometimes it can make sense to pay more interest and refinance later if rates are expected to drop. If you fall into a 20% marginal tax rate, for example, you can reduce the total interest on the loan by 20% as you would save that money on your income taxes assuming you itemize deductions.

One final item to consider and should really not affect your decision at all is future borrowing potential. Having a higher payment from a 15 year mortgage could theoretically drop your ability to borrow for other needs as you have less disposable income. This should be a non-issue for most as we should save for things and not borrow.

Buying a house is a big investment and it is important to make the right mortgage choice for your situation. If you have covered all of the above items then you have "done your homework" and are on the right path. Now that you have figured out your mortgage details and how much you can afford go out and find your new home!

Building Credit? Use a CD Secured Loan!

I found a great tool for building up your credit history and score. Some banks and credit unions offer a loan where you put money, say $1,000, into a CD. The term of the CD matches the term of the loan and the loan is secured with that CD. You make payments (on time, obviously) and they report the good credit activity to the credit bureaus.

The best deal I found is that a local credit union will charge you 3% above the interest rate on the CD. This is not a bad deal for building credit. You simply make the payments on time and you get the money back from your CD plus interest. 3% of a loan for $1000 for 1 year is $30. You are essentially paying them to give you a good credit history.

This is a great way to start to build credit history if you have none or to rebuild credit history after a rough patch. I personally suggest doing it one loan at a time with different institutions so you will have multiple on file. You can go back to these lenders later since you have a history with them if you need an actual loan that is not secured.

This is a better solution that credit cards since it is an installment loan. Credit cards are also good for providing history but they can be more difficult to get for some people. The lender has nothing to lose since it is secured with real money. It is a win-win for both parties.