Charting Their Rise Out of Debt

By Michelle Singletary
Sunday, September 28, 2008; F01

While the government tries to figure out how to bail out Wall Street, I've been working this year on ways to bail out three military families from debt that was crushing their spirits.

These families -- unlike many major institutions -- didn't wait for a handout. Instead, they cut their expenses, ended their addiction to credit, and took responsibility for their poor money-management decisions.

The couples agreed to participate in this year's Color of Money Military Challenge and to expose their financial situations in exchange for help with their money woes. They are in many respects prime examples of the people at the core of the current financial crisis. They represent many Americans who haven't saved much -- if anything at all. They overused credit, racking up thousands of dollars in charges they had to roll over month to month. One family got caught in the housing downturn and stuck with a mortgage they couldn't afford.

They all let their spending get out of control.

But had these couples not begun to rein in their spending and aggressively pay off their consumer debt at the beginning of the year, they would be having a particularly tough time now dealing with the rise in food and gas prices.

Tarek and Evibeth Bathiche, both Army personnel stationed at Fort Meade, started the challenge with $27,600 on six credit cards. They have just $6,500 left to pay off.

"When we wanted something, we wanted it, and if we could make payments later, all the better," Tarek Bathiche said. "We are the typical American family because we are looking to buy a house, but we can't because of debt. And once we are out of debt, it will still be hard to buy a home with the way everything is going now."

Amber and Trenton Holmes are feeling what many home sellers are feeling right now. For more than a year, they have been stuck with a second home they've been unable to rent out for enough money to cover the mortgage and taxes. They also have been unable to sell it at a price high enough to pay off the mortgage.

They are not alone. Existing-home sales dropped 2.2 percent in August compared with July, according to the National Association of Realtors. The price people could get for their homes in many areas also continued to decline. The median sales price of existing homes sold in August was $203,100, down 9.5 percent from $224,400 a year ago.

Amber Holmes said that when the couple decided to upgrade to a larger home in the District, they planned to keep their first home as an investment property. They figured that the way housing prices were rising, they wouldn't have any trouble selling or renting the house.

They were wrong.

When they were finally able to rent the house out after 10 months, they still had to kick in $1,000 a month to cover the costs.

"In hindsight, of course we feel we should have stayed in the other house," Holmes said. "We purchased a larger home because we felt we needed the space with two teenaged boys. Now, we no longer have two teenaged boys with us. We would have been better off paying off our debt and putting money away."

The couple can actually afford the home they bought. They just can't carry two mortgages and handle all their consumer debt. All of that debt lumped together put them in a precarious situation in which their monthly expenses were more than their take-home pay.

"I can certainly say that with the amount of debt that we had, we should not have purchased when we did," Holmes admitted. "We did not take advantage of the subprime mortgage market. Our problem was with the market taking the dive that it did, there became a flood of rental opportunities thus making it very difficult to rent and command a rent that covered the mortgage amount."

The couple, on my advice, finally decided to take a loss and try to sell the rental home. Fortunately for them, their current tenants want to buy it and have put a contract on the home. Unfortunately, with housing prices deeply depressed, the offer is $125,000 less than what they owe. So they have to do a short sale.

In a short sale, the lender will accept less than the full mortgage amount, often forgiving what debt is left. Holmes said they were waiting to hear whether their lender would approve the deal. The lender told them it could take up to 60 days before they get an answer.

"I guess they're not really eager to help when it's not your primary property," Holmes said. "When you have people who are about to lose the roof over their heads, and you're seeking help on a second house, they don't want to assist you until you're in dire straights." Even if the lender does accept the short sale, there are taxes to factor in. Because the home is no longer their primary residence, they may have to pay taxes on any debt that is forgiven.

Usually, debt that is forgiven, or canceled, by a lender must be included as income on your tax return and is subject to tax. Last year, Congress passed the Mortgage Forgiveness Debt Relief Act, which allows borrowers to exclude from their income certain canceled home-loan debt on their principal residence. However, only canceled debt used to buy, build or improve a principal residence or refinance debt incurred for those purposes qualifies for this exclusion. But even with the tax bill, the Holmeses are better off selling and getting out from under the mortgage on the investment property. They can't afford to keep supplementing the rent.

"We will be relieved when the house sells, but then we are worried about the tax implications," Holmes said. "But we will face that bridge when we get to it." If the couple continue to pay down their consumer debt and save, they should be able to handle the tax hit.

Then there are Kim and George Colón, who together earn a six-figure income. Kim Colón, 43, is a senior master sergeant in the Air Force. She's been in the military for almost 20 years. George Colón is 53 and served 22 years in the Army.

The couple represent the many Americans who have enough income to live on. They just got hooked on using credit, and before they knew it, they were more than $30,000 in debt on eight credit card accounts and had little in savings.

"Watching the news about the economy just makes me feel I was part of the problem," George Colón said. They aren't anymore. Eight months into this challenge, the two have stopped their overspending and are $1,000 away from being free of all that credit card debt.

It's a good thing, too. George Colón, who is a government contractor, is worried that the billions of dollars the federal government will borrow to bail out corporations may result in less government spending. He's worried that government cutbacks because of the rising national debt could affect his job.

There's much we can learn from how these three couples have bailed themselves out of financial trouble. First, they recognized they had a problem. They sought help. They listened to the advice they were given. They changed their spendthrift ways. They are living a mostly credit-free lifestyle and paying cash. By doing all that, they've now positioned themselves to better handle the current economic crisis.

Charity Brown contributed to this report.

· On the air: Michelle Singletary discusses personal finance Tuesdays on NPR's "Day to Day" program and athttp://www.npr.org.

· By mail: Readers can write to her at The Washington Post, 1150 15th St. NW, Washington, D.C. 20071.

· By e-mail:singletarym@washpost.com.

Comments and questions are welcome, but because of the volume of mail, personal responses are not always possible. Please note that comments or questions may be used in a future column, with the writer's name, unless a specific request to do otherwise is indicated.