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Her 'First Step' Out of Debt Is a Giant Stride

Sunday, December 23, 2007

Age:36

Background: Schleicher is a single professional who works as an associate editor for a news Web site for high school students. The Pennsylvania native lives in the District and earns about $44,000 a year.

Her 2007 New Year's resolutions: Schleicher wanted to pay off $4,500 on her only credit card and build up a savings cushion representing at least three months of her living expenses. She also wanted to accelerate paying off $10,754 in student loans.

Struggles: For most of the challenge, Schleicher struggled to stick to restrictions on at least one budget item -- entertainment. A young single professional, she had a hard time cutting back on going out with friends.

Setbacks: Ah, the best-laid plans. Because Schleicher has limited discretionary income, we decided to focus on just two of her three resolutions -- paying off the credit card and building a cash cushion.

But Schleicher had a major setback. Her trusty 1992 Subaru Loyale, after 155,000 miles and 15 years on the road, finally died. Schleicher had owned the car for nearly 10 years. She tried mightily to save the vehicle. However, two mechanics deemed it dead, or at least not worth the expense of fixing. I agreed.

Here's what I suggested that she do:

¿ Figure out how much she could afford in a car payment every month. The amount couldn't interfere with her debt payments.

¿ Join a credit union. I had been pressing this since the beginning of the challenge because I knew she had an old car. Credit unions typically offer lower auto financing rates than banks or dealers. I also encouraged her to check with her bank for comparison. She did.

¿ Think used. She has an extremely tight budget. I sent her to Edmunds.com and KBB.com to check out used-car prices.

¿ Finally, apply for a 48-month loan. If she couldn't afford the payment for a four-year loan, she couldn't afford the car.

Schleicher followed my advice.

She joined a credit union. And a co-worker was selling a Honda Civic, which had about 7,000 miles on it, for $13,000. She was approved for a 48-month loan by the credit union at 5.99 percent, much less than the rates quoted by her bank. Her monthly payment is about $300.

Successes: Schleicher should be proud of herself. She has spent a year without using her credit card. And although she didn't completely pay off the $4,500, she is close. Just two more scheduled payments in the new year, and she'll be rid of that albatross.

Schleicher would have paid the debt off completely if not for the car crisis. She's down to about $300 in savings, chiefly because of repairs before she got rid of the Subaru. She donated it to a charity for a tax break of $500.

At one point, she had $1,100 in her emergency fund.

"I got a little off track with my goals for the year, but I still feel good about the outcome," she said.

As I told Schleicher, it is okay that she had to use the money. That's what an emergency fund is for and why it is paramount to save even while you are trying to get out of debt. If she hadn't saved anything, she would have had to resort to using her credit card, sinking further into debt.

Schleicher has a part-time tutoring job, which she will keep, and will use that money to help make her car payments.

New Year's resolutions for 2008: There's still the student-loan debt. With the credit card debt out of the way, Schleicher plans to focus on getting rid of her six student loans, the oldest of which is from 1989. The rest were taken out in the early 1990s. Her combined loan payments are $260 a month. On the current schedule, she has three years left to pay off the loans.

"I feel like I have been paying them forever," Schleicher said. "Although, to be fair, they were deferred for several years while I was in the Peace Corps and a poor Catholic-school teacher."

A student loan isn't a pet that should be kept around with loving affection. This young woman and hundreds and thousands like her are being smothered by student-loan debt. It's time for her to get free of that bondage.

I suggest that, starting in March, she take $100 of the $400 she was paying on the credit card every month and use it to accelerate paying down the student-loan debt. She should apply the extra money to the loan with the lowest balance, which is $553. Once that's paid off, she should use the $100 to pay down the loan with the next-lowest balance. The rest of the money ($300) would be split between rebuilding her emergency fund (to three months' worth of living expenses) and a separate savings that I call the Life Happens Fund, which is used for unplanned non-emergency expenses.

She'll still divert money from her retirement savings to get out of debt. At the beginning of this challenge, I recommended that Schleicher stop making the $100 monthly payments to her retirement fund so she could pay off her debts. I wouldn't have suggested stopping all retirement contributions, however. Schleicher's employer contributes the equivalent of 10 percent of her salary to a retirement plan even if she does not contribute. That's an amazing benefit. It means she can afford to divert her own contributions for a short period to get rid of the student loans.

Final thoughts about her performance in the challenge: When Schleicher started this challenge, she wanted to do better with the money she made, something her late mother had urged her to do.

"I think I've certainly learned a lot, but this is just my first step," Schleicher said. "It's not as if something magical happened and I'm suddenly solvent. I had good intentions, but life got in the way. Although it's been a bit tough at times, I am so glad that I made the decision to put it all out there and ask for help."

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