Mortgage demand ticked up last week as interest rates decreased following the news of a slowing job market. Applications increased by 2.6% on a seasonally adjusted basis during the week ending May 3, according to the Mortgage Bankers Association’s (MBA) weekly mortgage applications survey.
“Treasury rates and mortgage rates fell last week on the news of a slowing job market, with wage growth at the slowest pace since 2021, and the Federal Reserve’s announced plans to ease quantitative tightening in June and to maintain its view that another rate hike is unlikely,” Mike Fratantoni, MBA’s senior vice president and chief economist, said in a statement.
According to the MBA, the average 30-year conventional rate dropped to 7.18% as of May 3 while the average rate for Federal Housing Administration (FHA) loans fell 17 basis points to 6.92%, the first time in three weeks it has been below 7%.
Purchase loan application volume ticked up by 2% from one week earlier, driven by a 5% gain in FHA applications.
“First-time homebuyers account for roughly half of purchase loans, and the government lending programs are an important source of financing for these homebuyers,” Fratantoni added. “The gain in FHA activity is a sign that this segment of the market is active.”
Meanwhile, refinance volume rose by 5% from the prior week. The refinance share of mortgage activity increased to 30.6% of all applications.
“Even with the increase, which included a 29% jump in VA refinances, refinance volume remains about 6% below last year’s already low levels,” Fratantoni said.
The MBA survey showed that the average mortgage rate for 30-year fixed loans with conforming balances ($766,550 or less) decreased to 7.18%, down from 7.29% last week.
Meanwhile, rates on jumbo loans (balances greater than $766,550) also decreased week over week to 7.31%, down from 7.39%.
On Wednesday, HousingWire’s Mortgage Rates Center showed the average 30-year fixed rate for conventional loans at 7.48%, down from 7.58% one week earlier.
The cost to buy a home has reached historic highs in the U.S. — the median price of a home is $420,800, according to the Federal Reserve Bank of St. Louis — and housing and mortgage costs are increasingly turning into a November election issue.
Home shoppers today need to an annual income of $114,000 in order to comfortably afford a typical home in the U.S., according to Redfin, nearly double what was needed to afford a typical home in 2020. That figure is far above the 2022 median household income of $74,580, according to the Census Bureau.
Higher monthly payments are driven by higher home prices as well as significantly higher interest rates. Mortgage interest rates, which dipped to an historic low of 2.65% on a 30-year fixed mortgage in 2021, have soared beyond 7%, higher than they’ve been since 2001. Interest rates are set by the independent Federal Reserve, and President Joe Biden has insisted on the Fed’s independence. The Federal Reserve has been raising interest rates since 2021 in order to combat stubborn inflation.
smaller, entry-level homes, several experts agree.
Once interest rates are removed from the picture, “then you’re left focusing mainly on the supply shortfall,” said Jim Parrott, fellow at the Urban Institute and former Obama White House economic adviser.
The housing market has seen a severe shortage of smaller starter homes, Parrott said. Builders, he said, are incentivized to build large, often mansion-like homes, which more easily turn a profit.
“The cost of building larger homes tends to be quite high, and it’s easier to recoup those costs if you’re making big, expensive homes,” Parrott said.
The federal government needs to “make the math for building homes at the bottom of the market more favorable” for developers, Parrott suggested. And Congress can do this with the tax code. One approach would be to give a tax cut to any builder who constructs a residence for a first-time home buyer at below the median home price, Parrott said.
“You need to provide some sort of tax benefit for building homes in the parts of the market where we need them the most,” Parrott said.
But getting this divided Congress to work together on something like this would be challenging, Parrott said.
“I’m afraid that the legislative environment right now just isn’t conducive to this sort of big, bipartisan effort,” Parrott said. “Hopefully after the election we’ll see a reboot that provides a more hopeful window.”
Withhold funding from localities that don’t change zoning laws
Most of the control over zoning lies with state and local governments. And states have been working to overhaul zoning to ease restrictions on denser residential construction. But the federal government isn’t entirely powerless on zoning.
Parrott said the federal government has used a carrot approach to encourage localities to rezone in favor of denser housing, but now he thinks maybe it’s time to use a stick. For instance, any federal funding for communities could be conditioned on how zoning decisions are made. Communities receive substantial financial support from the Department of Housing and Urban Development (HUD), the Transportation Department and other agencies for projects, Parrott noted.
“If federal policymakers were to condition even a little bit some of that funding on whether or not local decision-making is supportive of or prohibitive of more density,…then you could begin to change things at the local level in a way that would really matter,” Parrott said.
Such a move would be almost certain to trigger strict opposition from localities and unions. But more states have already been enacting legislation to supersede local zoning rules, said Alex Horowitz, director of housing policy at The Pew Charitable Trusts. Horowitz said nine states have passed laws allowing accessible dwelling units or ADUs — like small, independent, mother-in-law suites — on homeowners’ properties.
Sell federal land to use for housing
“The federal government owns hundreds and hundreds of millions of acres, and we’re not talking about the National Parks here,” said Edward Pinto, co-director of the American Enterprise Institute’s Housing Center.
But that’s a proposal that Congress would need to authorize.
It has been tried. Sen. Mike Lee’s HOUSES Act of 2022 would have approved the sale of federal land to states and localities for below-market rates for housing projects. The federal government owns two-thirds of the land in Lee’s home state of Utah, and the gap between median household income and median home cost is largest in the West, according to HUD.
But his bill went nowhere. The Bureau of Land Management, which oversees federal land, said in written Senate testimony that it would be forced to “sell land without sufficient evaluation of the values to the public or to future generations, or sufficient compensation to the American taxpayer.”
The sale of unused land could also attract opposition from environmentalist groups, though sometimes that can be overcome. In March, Washington Gov. Jay Inslee signed a law that will allow that state’s Department of Natural Resources (DNR) to transfer some of its property to localities to build affordable housing.
Washington state GOP Rep. April Connors, who introduced the bill, noted that that the DNR had 7,000 acres of land that was unusable for timber harvesting because it was too close to developed land. Building housing on it could ease the shortage of homes in Washington, Connors noted in a statement, pointing out that the state has the “fewest housing units per household in the nation and nearly half of renters spend a third of their income on rent.”
Improve consumer access to financing for manufactured housing
Manufactured homes are factory-built residences built after 1976 — formerly known as mobile homes — that can be placed on land. The average new manufactured home sold for $126,600 in November 2023, according to the Census Bureau.
But loans are harder for homebuyers to secure for manufactured homes than for traditional ones, Horowitz said. And since manufactured housing usually involves shipping over state lines, the federal government plays a big role. HUD controls access to financing for manufactured homes, and rules are stricter than they are for traditional homes.
Interest rates are typically also higher for manufactured home loans than for traditional home loans, in part because unlike traditional homes, which tend to appreciate in value over time, manufactured homes can depreciate. The structures are also viewed as riskier than conventional homes because they’re usually harder to sell on the market. Horowitz suggests HUD could make it easier for borrowers to access loans.
Eliminate tax breaks for second (and third) homes
Congress could increase the national housing stock over time by eliminating tax breaks for any homes that aren’t a primary residence, said AEI’s Pinto.
Getting rid of the mortgage interest rate deduction for non-primary residences would eventually encourage many homeowners to sell, Pinto said.
“Why should they be subsidized by the tax code,” Pinto asked.
Without that tax break, hundreds of thousands of homes would come back onto the market as primary residences, Pinto said.
“It would cost the federal government basically nothing,” Pinto said. “They’d actually save some money on the tax savings, and it would not increase demand at all.”
This isn’t likely to happen soon though. Such a measure would have to be passed by Congress — and many lawmakers own second and third residences. And a number of their constituents and donors own multiple homes. Realtor interest groups would oppose it, too, Pinto said.
The most Congress has done in recent years to address tax breaks for expensive residences was in 2017, when the GOP-controlled Congress capped the deduction limit for state and local income taxes, which hit coastal, heavily Democratic states like New York and California particularly hard.
Still, eliminating the tax break for secondary homes is “low-hanging fruit,” and would increase supply and reduce demand simultaneously, Pinto said.
Economists mostly doubt that action by the Federal Reserve to significantly lower interest rates would help much.
“If the Fed were to cut rates in a way that allowed mortgage rates to fall to the 4% range, we would see both supply and demand increase in the housing market,” said Chen Zhao, who leads the economics team at Redfin.
And whether home prices rise or fall would depend on what then happens to housing supply and demand.
“If demand increases more, then prices would grow at a faster rate than they are currently,” Zhao said. “However, it’s also possible that supply would increase more because sellers have been so locked in by low existing mortgage rates. If that’s the case, then price growth could fall. I think it’s unlikely in either case that prices would fall outright.”
Would Biden or Trump’s policies help or hurt housing costs?
Former President Donald Trump hasn’t offered policy suggestions to address housing affordability yet, although he criticizes mortgage interest rates and home prices under President Biden.
The president has proposed giving a $10,000 tax credit to first-time middle class homebuyers, and up to $25,000 to first generation home buyers. He’s also introducing a $20 billion fund that in addition to helping build affordable rental units, is meant to peel away local barriers to housing development and spur the construction of starter homes.
Down payment assistance may help home shoppers in the near term, although the tax credit probably falls short of the traditional 20% down payment on most homes. With monthly payments at record highs, this down payment assistance would not lower monthly costs. And down payment assistance could have unintended consequences, Pinto said: “It would increase the price of entry level homes.”
What can the White House do about high housing costs?
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The effect down payment assistance or a buyer tax credit would have on the housing market is complicated in a supply-constrained market, Horowitz said.
While Trump hasn’t made specific proposals on housing, his proposals in other policy areas would likely drive home prices up, Parrott said. Mass deportations of undocumented migrants, for instance, could drive the cost of labor higher, and raising tariffs on China could drive up material costs, Parrott said.
“The things that Trump has said relevant to housing almost all cut the wrong way,” Parrot said.
How home costs could affect the election
The cost of home ownership is a top concern for Democrats and Republicans, city dwellers and rural residents alike, said Parrott. Once an issue has broken through the barriers of red and blue, metro and rural, “then it changes the probability of something happening,” Parrott said.
“Housing has found its way to the grownups table, in effect, for the first time,” Parrott said.
And even though it’s the Fed that controls interest rates, Mr. Biden could be held accountable by voters.
“President Biden’s reelection is closely tied to the cost of homeownership and thus, the fixed mortgage rates,” Mark Zandi, chief economist at Moody’s Analytics predicted. “The fixed rate is currently just over 7%. If it rises above 8% for any length of time, his reelection odds will fade, and if it falls closer to 6% his odds will increase meaningfully, all else equal.”
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Kathryn Watson
Kathryn Watson is a politics reporter for CBS News Digital based in Washington, D.C.
Fannie Mae announced on Wednesday the availability of a new web-based option for its income calculator tool, which is designed to “help mortgage professionals serve the growing number of mortgage applicants in the U.S. who are self-employed and don’t have traditional sources of income,” according to the government-sponsored enterprise (GSE).
The new option for the tool is available at no additional cost and can be accessed via the company’s website.
“Whether through our new web-based user interface or through an integrated technology service provider, Fannie Mae’s Income Calculator simplifies the process of underwriting the qualifying income of self-employed borrowers, which traditionally has been a challenging and time-consuming operation for lenders,“ Mark Fisher, vice president of single-family credit risk solutions at Fannie Mae, said in a statement.
“With the launch of our new web interface, originators now can select the solution that best aligns with their processes and meets their needs, while saving time and improving certainty in the quality of the loan,“ he added.
The company introduced the income calculator last year, and the new web-based option is designed to reduce loan defects that are more likely for borrowers with nontraditional sources of income. The GSE introduced updates to its Selling Guide in February that are also designed to better serve those with nontraditional income.
“Lenders also still have the option to partner with one of Fannie Mae’s authorized third-party technology service providers to automate the calculation of self-employment income streams during the underwriting process,” Fannie Mae explained. “With either solution, the lender benefits from an accurate income calculation and the resulting reduced risk of loan repurchase.”
Self-employed borrowers make up about 10% of the U.S. workforce and “a growing number of Fannie Mae loan deliveries,” the GSE stated. “Incorrect income calculation and documentation can cause defects, which are identified in Fannie Mae’s post-purchase loan quality reviews. With the Fannie Mae Income Calculator, lenders receive an accurate, validated income amount for use in the underwriting process.”
The standard narrative of buying a house involves a real estate agent. The Realtor acts as your tour guide, guiding you not only through available homes, but also through the complicated process of becoming a homeowner.
However, some independent sellers prefer to sell their home without a real estate agent’s services. As a prospective buyer, you would interact with the homeowner instead of a Realtor.
This process, known as a sale by owner or FSBO sale, offers potential buyers the opportunity to bypass some traditional real estate transactions, which may save money on agent’s commission fees. FSBO sellers handle every aspect of the sale, including setting the listing price, marketing the house for sale, and negotiating the purchase price.
FSBO sales differ from a typical sale, as they require the home buyer to assume tasks that a real estate agent would usually handle. This includes finding FSBO listings, validating property details, and negotiating the sales price with the FSBO seller directly.
Key Takeaways
A For Sale By Owner (FSBO) transaction allows buyers to negotiate directly with sellers, potentially bypassing real estate agent commissions but requiring extra due diligence.
Buyers should secure mortgage preapproval, verify property details through CLUE reports and title checks, and consider hiring a real estate attorney or title company to manage legalities.
Closing a FSBO sale involves setting up an escrow account, preparing extensive paperwork, and understanding post-closing steps like utility setup and managing property taxes and insurance.
An Overview of the FSBO Process
A FSBO sale, where an owner sells their house without a real estate agent or a listing agent, differs from a typical sale. Understanding the intricacies of these real estate transactions can be vital to a smooth closing. FSBO sellers handle everything from setting the listing price, marketing, negotiating, and closing, offering more room for direct communication and price negotiation.
However, an FSBO transaction requires the buyer to take on tasks typically handled by a real estate agent. Unless you are working with a buyer’s agent, closing can be complex. You may be on your own for a home inspection. Getting an appraisal and negotiating a selling price will be up to you. Completing the title search and other tasks usually falls to the seller’s agent.
Prepare for the Purchase
Buying a home is exciting, but it’s also a venture that requires substantial financial planning and understanding. Preparing for the financial aspect of your purchase can increase your chances of a successful transaction and make the overall home buying experience less stressful.
Determining how much house you can afford is the first step. Getting pre-approved for a mortgage is essential. You’ll also need funds for a down payment and closing costs. Buying a FSBO home is similar to purchasing through a real estate agency.
Assess Your Credit Score
Your credit score is a key player in this process. It has a significant impact on your ability to secure a home loan, dictating your interest rates and loan terms. Before you start shopping for an FSBO house, check your credit score and, if necessary, take steps to improve it. This may involve paying down debts or correcting any errors on your credit report.
Secure Loan Preapproval
Once your credit is in check, securing preapproval for a home loan can give you a head start. This process involves a lender checking your financial history and assessing whether you’re a viable candidate for a loan.
Upon preapproval, you’ll know the maximum amount you can borrow, which helps you set a realistic budget for your house hunting. A mortgage broker, with their extensive knowledge and resources, can guide you through this process and help you choose the best loan for your needs.
Set Aside Savings
Additionally, it’s essential to have savings set aside for a down payment and closing costs. Down payments typically range from 3.5% to 20% of the home’s purchase price. Closing costs, on the other hand, usually amount to 2% to 5% of the loan amount. These costs can add up, so preparing for them can prevent financial surprises down the road.
Ensure a Mortgage Contingency
Lastly, when setting the terms of the purchase contract, ensure it includes a mortgage contingency. This clause protects you if your final home loan approval falls through, allowing you to back out of the deal without financial repercussions.
Research the Property
Buying an FSBO home requires thorough due diligence and understanding your local market’s dynamics.
Familiarize Yourself with the Market
Familiarize yourself with FSBO listings in your desired area. Assess the features of various properties, their listing prices, and how long they’ve been on the market. This exercise can help you gauge a fair price for the property you’re interested in.
Verify Property Details
In FSBO sales, buyers need to take extra care when verifying property details. These include, but are not limited to, ownership history, physical condition, and any past insurance claims related to the house for sale.
CLUE Report: A good starting point for property research is the Comprehensive Loss Underwriting Exchange, also known as CLUE. This database contains up to seven years of insurance claims history for properties. Requesting a CLUE report can provide insight into any past damages or issues that have led to insurance claims. This information helps when assessing the overall condition of the home and can play a role in price negotiations.
Check the Title: Another important element in property research is checking the home’s title. The title outlines the history of property ownership, and any issues, like liens or disputes, could complicate the transaction. You might want to consider hiring a title company or a real estate attorney to ensure a clear title, further securing your investment.
Conducting extensive research on the property not only aids in making an informed decision but can also arm you with valuable information during price negotiations.
Understand the Legalities
Buying a house is not just a financial commitment, it’s a legal one too. Understanding the legal aspects of real estate transactions can protect you from potential complications, particularly in a FSBO sale, where you might not have a real estate agent guiding you through the process.
Hire a Real Estate Attorney or a Title Company
In a traditional real estate transaction, a buyer’s agent handles the legal paperwork. However, in a FSBO sale, buyers often need to manage these tasks themselves. This is where a real estate attorney or a title company can help. These professionals can assist with the legal aspects of the transaction, including:
Ensuring the house is a separate legal entity operated correctly, free from liens, and without any outstanding claims.
Conducting title searches to confirm the legitimacy of the property’s ownership.
Assisting with the closing process, ensuring all necessary documents are correctly filled out and filed.
Review the Purchase Agreement
The purchase agreement is a binding legal contract between the buyer and the seller. It outlines the final purchase price, terms of the home sale, and any conditions that must be met before the sale can be finalized.
Given its importance, it’s recommended to have a lawyer review the purchase agreement before the buyer and seller sign it. This review can ensure that all the stipulations are in your best interest and that there are no potential loopholes that could cause problems later.
Pricing and Negotiations
FSBO sales often provide room for more negotiation when it comes to the home’s asking price. This flexibility can result in a lower purchase price, potentially saving you money.
Home Appraisal
A home appraisal can be an essential tool during these negotiations. An appraiser evaluates the property and provides an estimated market value. This estimate is based on various factors, including the home’s condition, location, and comparable homes in the area.
With an appraisal in hand, you have a foundation for negotiating the home’s price with the seller directly. It gives you a benchmark, helping to ensure you don’t pay more than the property is worth.
Handling a Low Appraisal
A FSBO transaction can become complicated if the appraisal is lower than the agreed-upon purchase price. In this scenario, you have a few options:
Request a price reduction: If the appraisal comes in lower than the agreed-upon price, you can ask the seller to reduce the price. They may be willing to do this to keep the sale on track.
Challenge the appraisal: If you believe the appraisal was inaccurate, you can challenge it. You’ll need to provide compelling evidence, such as recent sales of comparable homes that were not included in the original appraisal.
Handling these situations tactfully can keep your home purchase on track while ensuring you get a fair deal. Remember, every real estate transaction is unique, and dealing with these challenges may require professional guidance from a real estate attorney or a buyer’s agent.
Home Inspections
Investing in a home inspection is a prudent step in the homebuying process. A comprehensive inspection can reveal potential problems or necessary repairs that may not be immediately apparent. This is especially critical when buying a FSBO property, as there might not be a real estate agent involved to facilitate this step.
Choosing a Home Inspector
Finding a qualified and experienced home inspector is paramount. Look for inspectors who are certified by a national association and who have a good reputation in your local market. Your home inspector should evaluate the following:
Structural elements: walls, ceilings, floors, roof, and foundation.
Systems: plumbing, electrical, and HVAC.
Other components: insulation, ventilation, windows, and doors.
Outside: drainage, driveways, fences, sidewalks, and any potential safety hazards.
After the Home Inspection
Once the home inspection is complete, you will receive an inspection report outlining any identified issues. Depending on the findings, you may:
Request repairs: If the inspector identifies any issues, you can ask the seller to make necessary repairs before closing.
Renegotiate the asking price: If there are significant issues that the seller is not willing to fix, you might renegotiate the price to account for the repair costs.
Walk away: In the case of severe problems, such as foundational issues or extensive water damage, it might be in your best interest to walk away from the sale.
Securing Financing
Once you’ve agreed on a sales price and completed the home inspection, the next step is to finalize your home loan. This stage requires careful consideration as it can significantly impact your personal finance situation.
Compare Mortgage Options
Start by comparing different mortgage options. Each loan type has its advantages and drawbacks, and the best one for you depends on your individual circumstances. A mortgage broker can be a valuable resource during this process, helping you understand the nuances of each option and finding the best fit for your financial situation.
Review the Loan Estimate
Mortgage lenders are required to provide a loan estimate within three days of receiving your application. This document outlines the specifics of your loan, including:
Loan amount: The total amount that you’ll borrow.
Interest rate: The cost you’ll pay each year to borrow the money, expressed as a percentage.
Closing costs: The expenses you’ll need to pay to finalize your mortgage, which can include origination fees, appraisal fees, and title insurance.
It’s essential to review the loan estimate thoroughly and make sure you understand all the costs involved. If something seems off, don’t hesitate to ask your lender for clarification. After all, this is a significant financial commitment, and you want to be sure you’re making an informed decision.
Closing the Sale
Closing a FSBO sale involves several key steps that vary slightly from a typical sale involving real estate agents. However, the primary goal remains the same: to legally transfer ownership of the property from the seller to you, the buyer.
Setting Up an Escrow Account
In real estate transactions, an escrow account is used to safeguard the earnest money — the deposit you make to show the seller you’re serious about buying the house. This account is managed by a separate legal entity, such as a title company or escrow company, ensuring the funds are protected until the sale is finalized.
Preparing the Paperwork
The closing paperwork can be quite extensive and typically includes:
The deed: This transfers ownership from the seller to the buyer.
The bill of sale: This outlines the terms and conditions of the sale.
The affidavit of title (or seller’s affidavit): This document states the seller owns the property and there are no liens against it.
It’s best to have a real estate attorney or a title company prepare these documents to avoid any mistakes.
Title Insurance and Closing
Your lender may require you to purchase title insurance. This protects both you and the lender in case any undisclosed liens or ownership disputes arise after the sale.
On the closing day, you and the seller will sign all closing documents. The funds held in the escrow account, including your down payment and closing costs, will be appropriately distributed, and the property’s ownership is legally transferred to you.
Post-Closing Steps: What Comes Next?
After the exhilarating process of buying a house, there are a few additional steps to take post-closing.
Utility Setup and Address Change
Ensure utilities are set up in your name, including water, electricity, gas, and internet. You should also update your address for any subscriptions, credit cards, bank accounts, and identification documents.
Understand Property Taxes and Home Insurance
As a new homeowner, it’s important to understand your obligations regarding property taxes and home insurance. Familiarize yourself with due dates and payment procedures to avoid late fees or potential complications.
Dealing with Potential Problems
If any problems arise with the home past closing, consult your home inspection report before paying for repairs out of pocket. If you’ve received a home warranty as part of the sale (which is different from home insurance), it may cover some of these post-closing issues.
Remember, buying a FSBO home might be more complicated than a typical sale, but the potential benefits, such as saving on the agent’s commission, make it an attractive option for many home buyers. With careful planning, research, and professional guidance, you can manage the FSBO homebuying process with confidence.
Conclusion
Though a FSBO transaction can be intimidating, with research and preparation, potential buyers can make the process go smoothly. Buying a house for sale by owner can offer significant savings and more room for price negotiation, as you bypass the real estate agent’s commission.
However, you need to remain diligent and informed throughout the process. Understand the local market, conduct a thorough home inspection, and engage professionals like a real estate attorney or title companies for a smooth real estate transaction. The homebuying process may be a marathon rather than a sprint, but with patience and perseverance, you’ll cross the finish line to your new home.
For most Americans, having a car is a necessity. We need it to get to work, school, the grocery, the doctor, and all our weekly errands. Unfortunately, both new and used cars are expensive — and auto loan rates are on the rise as well.
So when buying a car, does it ever make sense to use a personal loan instead of traditional financing? We’ll break down the difference between personal loans and car loans and when you might want to use the former to buy a new set of wheels.
Personal Loan vs Auto Loan: An Overview
You can use a personal loan for almost anything, including buying a car. But why would you use a personal loan to purchase a vehicle when there are very specific loans — auto loans — to finance this purchase?
As we’ll see, personal loans can offer some benefits over car loans, including less buyer risk, no down payment needed, better negotiating power, and potential savings on car insurance. But car loans still have their place and may be cheaper in the long run.
Personal Loans
A personal loan allows you to borrow money from a bank, credit union, or lender to fund nearly any kind of purchase. People commonly use personal loans for debt consolidation, home renovations, weddings, vacations, and even new and used car purchases.
Personal loans can be unsecured (no collateral required) or secured (collateral required). For the sake of our personal loan vs. auto loan comparison, we’ll be looking at unsecured personal loans, as they’re more common.
Recommended: Types of Personal Loans
How Interest Rates Work on Personal Loans
Because unsecured personal loans aren’t backed by any collateral, interest rates tend to be higher than what you’d get for a car loan. Average personal loan interest rates vary depending on your credit score and the loan terms, but typically, they max out at 36%.
Most personal loans come with fixed rates, meaning your interest rate will stay the same over the life of the loan. It is possible, however, to get a variable-rate personal loan. Check out our guide to fixed vs. variable rate loans to figure out which is right for you.
Terms for Personal Loans
Personal loan terms vary by lender, but you can typically take out a loan with a repayment term of one to seven years. The faster you pay it off, the less you’ll pay in interest — but your monthly payments will be much larger. 💡 Quick Tip: Before choosing a personal loan, ask about the lender’s fees: origination, prepayment, late fees, etc. SoFi personal loans come with no-fee options, and no surprises.
Car Loans
When buying a new or used car through a dealership, the dealer’s finance department can help you find a loan through a bank or credit union. Alternatively — or when buying from a private seller — you can shop around for a car loan from various banks and credit unions on your own.
Auto loans are usually secured loans, meaning the car you’re buying serves as collateral. This means, if you fall behind on payments, the lender can repossess your car. (It’s possible, but less common and more expensive, to get a car loan without putting the car up as collateral.)
How Interest Rates Work on Car Loans
The collateral on the car loan reduces the risk to the lender, which usually results in a lower interest rate. Still, auto loan interest rates depend on your credit score.
Car loan rates for both new and used cars have increased in recent years, but they’re still typically lower than the average personal loan rate. Notably, car loan refinancing rates are lower than regular financing rates.
Terms for Car Loans
Like personal loans, car loans might stretch 84 months (that’s seven years), but some are as short as 24 months (two years). Also like personal loans, it’s common to repay your car loan over three to five years. 💡 Quick Tip: In a climate where interest rates are rising, you’re likely better off with a fixed interest rate than a variable rate, even though the variable rate is initially lower. On the flip side, if rates are falling, you may be better off with a variable interest rate.
Can You Use a Personal Loan to Buy a Car?
Yes, you can use a personal loan to buy a car. In fact, you can use a personal loan for (almost) anything. However, it often makes more sense to get traditional vehicle financing when buying a car.
Recommended: Personal Loan Calculator
Is It Better to Get a Personal Loan to Buy a Car?
In some ways, it can be better to buy a car with a personal loan. You don’t have to stress about saving up for a down payment, there’s no risk of your car being repossessed, and you might even have more negotiating power at the dealership.
However, many buyers prefer the structure of an auto loan. These loans tend to be cheaper in the long run because of the lower interest rates. And they’re easier to get — both because of lower credit score requirements for car loans and because dealerships can help you find the best car loan for you.
Pros & Cons: Car Loan vs Personal Loan
Buying a car with a personal loan instead of an auto loan has its share of advantages, but there are also drawbacks to consider.
Pros
• Less risk: When you take out a car loan, the car itself serves as collateral for the loan. If you miss enough payments, the lender could repossess your vehicle. With an unsecured personal loan, you don’t face that risk, though there are still consequences if you default on a personal loan.
• More negotiating power: When you don’t have to go through the hassle of securing financing, the car buying process is much easier and faster for you and the dealer. That means you might be able to negotiate a better deal, like a discount for paying in full.
• Lower insurance costs: When financing a car, the lender may require you to carry comprehensive, collision, and gap insurance. But when you pay for the vehicle outright with the funds from your personal loan, no one can require you to carry those car insurance coverages.
• No need to save for a down payment: Personal loans don’t require a down payment. Though some have origination fees, you might even be able to roll those into the cost of the loan. That means you could use a personal loan to get a car with no money down.
Cons
• Higher cost: Interest rates are typically higher for personal loans, which means you’ll end up spending more money on your car in the long run than you would if you got traditional auto financing. Origination fees for personal loans may also be higher than they are for car loans.
• Higher credit score requirements: Because auto loans are secured by the vehicle being financed, lenders are a little more willing to work with lower credit scores. The credit score you need for a personal loan is typically higher (around 670), though this varies by lender.
• More insurance risk: There may not be an auto lender requiring you to carry comprehensive, collision, or gap insurance, but declining those coverages just because your personal loan lender doesn’t mandate them could open you up to a lot of risk. If your car is totaled and you don’t have the proper coverage to get reimbursed, you’ll still be on the hook for making your personal loan payments — so think carefully before minimizing your car insurance coverage.
The Takeaway
Both auto loans and personal loans can help you get behind the wheel of a new (or used) daily driver. Determining which type of loan is right for you comes down to your needs and preferences.
Think twice before turning to high-interest credit cards. Consider a SoFi personal loan instead. SoFi offers competitive fixed rates and same-day funding. Checking your rate takes just a minute.
SoFi’s Personal Loan was named NerdWallet’s 2024 winner for Best Personal Loan overall.
FAQ
Is it easier to get a personal loan or car loan?
Getting a car loan is usually easier than getting a personal loan. That’s because car loans are secured by the vehicle you’re buying. That means less risk to the lender, who will be willing to accept lower credit scores.
Should I take out a personal loan to buy a car?
While you can get an auto loan through a bank, credit union, or the dealership, you can also pay for a car with a personal loan. Personal loans reduce your risk — there’s no chance of your car being repossessed — and they may give you more negotiating power. However, personal loans typically cost more in the long run.
Am I allowed to use a personal loan to buy a car?
Yes, you can use a personal loan to buy a new or used car. In fact, you can use personal loans for just about anything. Just read the fine print of any loan agreement to make sure.
Photo credit: iStock/skynesher
SoFi Loan Products SoFi loans are originated by SoFi Bank, N.A., NMLS #696891 (Member FDIC). For additional product-specific legal and licensing information, see SoFi.com/legal. Equal Housing Lender.
Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.
A nest egg is a substantial amount of money that you save for a specific purpose. Savings accounts, investment accounts and working financial professionals can help you grow your nest egg.
A nest egg is a fund that you set aside for a specific purpose. Nest eggs can be large sums of cash that you store in a safe, retirement accounts like 401(k)s and IRAs, or investments like index funds and government bonds.
Nest eggs are one of the best investments for long-term financial goals. This fund shouldn’t be touched until months or years into the future. Below, we’ll further break down what a nest egg is, how it works, and how you can contribute to it over time. We’ll also share helpful financial tools like Credit.com’s 401(k) calculator.
Key Takeaways:
Cash, savings accounts, and investments can all be a part of your nest egg.
An FDIC-insured savings account protects up to $250,000 from losses.
Once you reach age 59 ½, you can withdraw funds from retirement plans, like your 401(k) and IRA, without penalties.
What Can You Use a Nest Egg For?
Funds that you place in a nest egg can serve various purposes later in life. Some of the most common reasons people utilize this savings tool include:
Family: A nest egg can cover costs if you have to go on unpaid family leave.
Education: Saved funds can help you pay for your children’s education or your post-graduate studies.
Rainy days: A nest egg can double as an emergency fund.
Early retirement: Some people save money to retire before age 59 1/2
Big purchases: Saving for a new car, a house, or a business expense.
Inheritance: Here, investors gather their funds for the sake of their beneficiaries.
Charity: The funds in your nest egg can help charities support numerous other people.
No matter your reason for building out your nest egg, knowing how to increase your funds is key.
How to Build a Nest Egg?
You’ll need to set money aside to successfully create a nest egg over time. Savings accounts are excellent tools for storing future funds—especially high-yield savings accounts, which can generate a significant amount of interest based on your initial deposit and subsequent contributions.
Effectively budgeting your funds is crucial to growing your nest egg, and you can do this in many different ways.
Set Clear and Realistic Goals
Creating savings milestones for yourself based on your current finances can help you steadily grow your nest egg over time. This process can be as simple as aiming to save $100 each month or as elaborate as saving to make a down payment on a home in 10 years.
Budget to Ensure Spending Aligns With Nest Egg Goals
Once you have a goal or series of goals in mind, you can adjust your spending habits to help you consistently meet those goals. For example, canceling subscriptions and eating out less can free up more funds to add to your nest egg.
The opposite is also true—once you know you’re regularly hitting your savings goals, you can treat yourself or donate extra funds with far less stress.
Leverage Savings Accounts With High Interest and Tax Advantages
High-yield savings accounts are excellent tools for safely storing funds and building interest long-term. These accounts protect up to $250,000 of your funds from losses via FDIC insurance.
A 401(k) and an IRA can help you save for retirement while offering distinct tax advantages on your funds. Employers offer 401(k)s, and they’ll match a percentage of the money you contribute to this fund. This is why financial experts encourage you to maximize your 401(k) contributions if possible.
IRAs are individual retirement accounts that you contribute to on your own. Traditional IRAs offer tax-deferred growth (meaning, tax payments aren’t due until later), while ROTH IRAs offer tax-free growth for any after-tax dollars you contribute.
Adopt Better Debt Management Strategies
Debt limits the amount of money you can add to your nest egg, so making repayments now can lead to increased funds in the future. The avalanche method and the snowball method are two popular strategies to pay off debt fast.
With the avalanche method, you pay off your debts with the highest interest rates first and work your way down. The snowball method calls for a different approach: you tackle your debts in order from the smallest to the largest amount.
Create a Diversified Investing Portfolio
When you diversify your investments, you create greater opportunities to build your wealth. For example, spreading your funds across a mixture of high-yield savings accounts, tax-advantaged accounts, stocks, bonds, and futures can potentially lead to a bigger return on investment than going all in on one type of account.
It’s important to manage your expectations when investing, as getting too ambitious can lead to big losses. It’s also pivotal to understand the risk involved with each account—stocks are more volatile than government bonds, for the most part.
How Much Should You Have in Your Nest Egg?
Everyone has different financial needs, so there’s no one-size-fits-all amount for nest eggs. Factors like your savings goal, location, and income all influence your unique needs. We recommend speaking with financial advisors to get the most accurate idea of your nest egg goal.
Even if you don’t yet have a specific goal in mind, you can always dedicate funds from each paycheck toward your nest egg. Using tools like a monthly budget template can help you get a better sense of your regular expenses and how much you can afford to save each month.
How Do You Protect a Nest Egg?
The methods for protecting a nest vary based on its form. FDIC insurance can protect a preset amount of the funds in your savings account in the event of a loss. For example, FDIC insurance protects up to $250,000 in a money market account,
Eliminating debts and increasing your financial knowledge will also help your nest egg in the long run. The fewer debts you have, the more money you can contribute to your savings goal—and knowledge will help you wisely allocate your funds.
To best protect your nest egg, watch out for get-rich-quick schemes that promise astronomical returns if you make an equally large investment. Lastly, set up alerts on your banking accounts to notify you about strange transactions.
Find Personal Finance Resources With Credit.com
Growing a nest egg is one of the more intuitive financial concepts out there, and it gets easier the more you know about money management. Check out Credit.com’s personal finance guide to deepen your understanding of methods for growing a nest egg and other investment strategies.
The Department of Veterans Affairs previously released a deadline with some leeway for a transition from a voluntary foreclosure suspension into a new loss mitigation program, where appropriate; but trade groups still want more time.
The Housing Policy Council and Mortgage Bankers Association in a letter released late last week asked for the VA to “extend the mandatory compliance date beyond Oct. 1” citing a need for more guidance related to the Veterans Affairs Servicing Purchase program.
The two groups specifically called for more direction “around loss mitigation and servicing transfers” as “critical components of the work that remains to prepare the program for implementation.”
They’re also awaiting a response to a request for regular meetings with the VA as part of the process.
Once those steps are in place, implementation could take six months, the trade groups said.
The VA said that it has been and will continue to work closely with the industry as it has throughout the development of the program, which allows the department to purchase defaulted loans from servicers, modify them and place the mortgages in its portfolio to prevent foreclosures.
“VA was present at numerous industry events, to include those held by the Mortgage Bankers Association, to discuss the upcoming VASP program. The goal of our efforts and external communications has been to provide transparency while creating an affordable alternative to foreclosure that benefits veterans, the Federal government and the taxpayer. Many program improvements to VASP were informed by those valued discussions,” the department said in an emailed statement.
Around 40,000 veterans have been affected by the discontinuation of a temporary partial-claim program from the pandemic in October 2022. These distressed borrowers have been awaiting VASP’s setup as the successor to the partial claim.
The VA wants mortgage servicers to be responsible for identifying borrowers eligible for the program, making them central players in its implementation.
Servicers will “try to implement VASP as soon as possible,” even though they have the aforementioned reservations about the timeline, according to the two groups. They support “an extension of the voluntary foreclosure moratorium to align with the effective date.”
“VA will continue to work with the industry, to include training and discussions, to address any questions regarding implementation,” the department said. “Please note, although VA is available to take VASP loans on May 31, servicers have until Oct. 1 to comply. We expect servicers to explore all options for home retention prior to foreclosure, to include VASP. This could mean placing a loan in a special forbearance until the servicer can submit the loan for VASP consideration.
“We look forward to our continued work with industry partners and have confidence in them to deliver VASP to eligible Veterans.”
Meanwhile, the nature of the VA’s partial guarantee persists as an issue that complicates its efforts to provide manageable foreclosure prevention, the Housing Policy Council added in a separate letter to two senators.
In the letter to Democratic Sen. Jon Tester of Montana and Republican Sen. Jerry Moran of Kansas, HPC asked for more to be done to address the issue in the Veterans Housing Stability Act of 2024, a bill introduced earlier this year.
Tester is the chairman of the Senate Committee on Veterans Affairs. Moran is the ranking member of that committee.
The council showed concern that the current bill’s proposal to restore the partial claim used in the pandemic runs into an issue the VA cited in originally discontinuing it: it introduces “additional VA risk exposure” that “is not budget neutral.”
The department has said VASP “will result in a government subsidy reduction of approximately $1.5 billion from 2024 to 2033 because it’ll cost less to purchase loans through the program than it would to go through the foreclosure process.
The HPC suggested a measure in the bill that could “make the VA’s powers more like those of the Federal Housing Administration” might address issues resulting from the former’s 25% guarantee
However, the council acknowledged the two are far different due to the FHA’s 100% insurance, which makes doing this challenging.
VASP, while different in structure and implementation from the administration’s new payment-supplemental partial claim, has a similar goal to address difficulty modifying loans for affordability purposes given differences in current and originated mortgage rates.
Something needs to be done to change the current approach because the current delay in the foreclosure process “increases a veteran’s indebtedness, adds to VA’s mortgage credit risk, and imposes a liquidity burden on servicers,” the council said.
Inside: Unlock the secrets of debt types and management. Explore everything from mortgages to student loans, and devise savvy debt strategies for financial health.
Understanding debt is essential as it is a common financial obligation that, must be managed wisely, if mismanaged, can lead to financial strain.
Most importantly, comprehending the fundamentals of debt is crucial for financial literacy. Debt spans various forms of credit, from mortgages to personal loans to credit cards.
Debt is a powerful force in the consumer’s financial life; it has the power to either create opportunities or trigger economic stress.
You must realize the multifaceted role that debt plays is a prerequisite for achieving and maintaining financial stability. As such, a comprehensive understanding of the various types of debts is not merely beneficial—it is indispensable.
Right now, consumer debt has reached $17.1 Trillion in 2023. 1
With this knowledge, you can navigate the financial tides with confidence, distinguish between advantageous and precarious borrowing, and ultimately wield debt as a tool for prosperity.
This post may contain affiliate links, which helps us to continue providing relevant content and we receive a small commission at no cost to you. As an Amazon Associate, I earn from qualifying purchases. Please read the full disclosure here.
The Mainstream Maze Examples of Debt Types
Understanding the various types of debt is crucial for anyone looking to maintain or improve their financial health.
Debt, often viewed in a negative light, can actually be leveraged as a powerful tool if managed correctly. Each category of debt — from secured to unsecured, installment to revolving — functions differently and influences your financial profile in its own unique way.
Recognizing these differences enables individuals to make informed borrowing decisions, repay their debts more effectively, and develop strategies tailored to their personal financial goals.
With this background in mind, let’s understand the different types of debt:
Navigating Through Secured and Unsecured Loans
Secured loans require collateral, reducing risk for the lender, like a mortgage or auto loan.
Unsecured loans rely on creditworthiness and come with tighter requirements.
Understanding Revolving vs. Installment Debt
Revolving debts, like credit cards, offer flexible borrowing limits.
Installment debts involve fixed payments over a period.
Fixed-Rate vs. Variable-Rate
Choosing between fixed-rate and variable-rate debt shapes your financial commitment and interest rate.
Fixed rates provide predictability in repayments.
Whereas variable rates fluctuate with market trends, potentially lowering costs or introducing variability.
Short-Term Debt vs. Long-Term Debt
Short-term debt, to be settled within a year, requires immediate attention.
Long-term debt, with extended maturities, often permits strategic repayment over time.
Defining Callable Debt vs. Noncallable Debt
Callable debt allows issuers an early exit option, granting them the ability to retire debt before maturity.
Noncallable debt, in contrast, guarantees the term’s completion, offering predictability for both investor and issuer.
Delving into Secured Debt Details
Secured debt plays a pivotal role as it hinges on collateral to assure lenders of repayment.
This type of debt brings with it the potential for lower interest rates and higher approval chances, but also the risk of losing valuable assets should a borrower default.
Collateral Commitment: Risks and Rewards
Rewards of Secured Debt
Risks of Secured Debt
Lower interest rates due to reduced lender risk.
Risk of losing the collateral property, such as a house or car, on failure to make payments.
Access to larger loan amounts because of collateral provision.
Limited use of borrowed funds typically for a specific purpose (e.g., a home or vehicle).
With continued payments, a credit score increase is likely.
Possibility of incurring additional fees or penalties if the loan goes into default and the property is seized.
Increased likelihood of loan approval because the loan is secured by an asset.
Potential negative impact on credit score and financial stability if unable to repay the loan.
Notable Nuances of Mortgages, Auto Loans, and More
Mortgage interest rates generally fluctuate between 3% and 5%, influenced by economic conditions, with the option of fixed rates or adjustable rates that can change annually within set limits. Typically, a fixed interest rate is the best option for homeowners. Most common mortgage lengths are 15 or 30 year terms.
In contrast, auto loan interest rates tend to be high with shorter terms of 5 or 7 years. Many times, these loans are often subsidized by automakers’ promotional offers to attract buyers with good credit, thereby varying considerably based on the loan’s duration and the borrower’s creditworthiness. Another option is to secure a car loan at a local credit union.
With mortgages tied to real estate and auto loans to vehicles, both present unique terms and implications for borrowers navigating the nuances of substantial purchases.
National Debt Relief
While this isn’t our first choice to pay off debt, for some of readers, it is the only option to get ahead on their debt.
Either way, it is helpful to confront your situation, and then find out your debt relief options – with no obligation.
Free Debt Relief Quote
Unmasking Unsecured Debt
Unsecured debt is a form of financing that does not require borrowers to pledge assets as collateral.
This type of debt is granted based on an individual’s creditworthiness and typically carries a higher interest rate due to the increased risk to lenders. The typical interest rates start at about 15% and go upwards from there.
Credit Cards and Personal Loans: No Collateral Needed
Credit cards and personal loans exemplify unsecured debt, with no collateral needed to secure them. Their accessibility hinges on the borrower’s credit history, representing a choice for financing without asset risk.
Many college students start with their first credit card and have no idea how it works.
The Pros and Perils of Unsecured Borrowing
Unsecured borrowing can offer financial flexibility without collateral, a clear advantage.
However, the perils include higher interest rates and the potential for a strained credit history if repayments falter, necessitating cautious consideration. This is how many people quickly rack up large amounts of debt without realizing the consequences of their actions.
Thus, why young adults need basic financial literacy.
Rolling with Revolving Debt
Revolving debt is a type of credit that lets you borrow money up to a certain limit, repay it, and then borrow again as needed, often seen with credit cards or home equity lines of credit (HELOC).
Unlike fixed installment loans, this type of credit emphasizes the borrower’s ability to manage and repay borrowed funds over time, which can have a significant influence on their credit score.
Mastering the Mechanics of Credit Lines
Credit lines empower consumers with fluid financial options, replenishing funds as balances are paid. Understanding their mechanics is critical in leveraging such revolving credit without succumbing to debt traps through accumulated interest.
Evaluating the Ubiquity and Utility of Credit Cards
Credit cards are ubiquitous in modern-day finance, serving as a versatile tool for electronic payments. They offer convenience and the potential for rewards but can lead to costly interest charges for those who fail to manage them judiciously.
Personally, I received a $942 cash back from my credit card. But, I pay off my balance monthly.
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Installment Debt Explored
Installment debt is a financial mechanism that allows individuals to borrow a lump-sum amount of money and repay it over a fixed period through regular payments, known as installments.
These debts, which can be secured or unsecured, usually involve fixed interest rates and include common financial products like mortgages, auto loans, student loans, and personal loans.
How Student Loans and Mortgages Shape Long-term Debt
Student loans and mortgages are pivotal in shaping long-term debt landscapes. They represent significant financial commitments with enduring impacts, facilitating education and homeownership while posing substantial repayment responsibilities.
You need to be wise in how much you decide to take out for either student loans or a mortgage. It is always best to take out less than offered by your lender.
Paying Off Different Types of Debt
Around here at Money Bliss, I stress the importance of paying off debt fast!
To effectively pay off different types of debt, starting with high-interest rate debts, such as credit cards, is essential because it reduces the amount of money paid on interest over time, allowing for more significant savings. This is the core idea behind the “avalanche” approach.
Alternatively, paying off smaller balances first using the “snowball” method can provide psychological wins and motivate continued debt repayment efforts.
For structured debts like student loans and mortgages with lower interest rates, adhering to the standard repayment plan while focusing extra payments on higher-interest debt can be a balanced strategy.
Additionally, employing methods like debt consolidation or transfers to lower APR vehicles can further aid in reducing the cost of borrowing and accelerate debt payoff.
Learn more about debt snowball vs debt avalanche.
Striking a Balance: Managing Varied Debts Wisely
Crafting an effective debt management strategy is a fundamental step toward financial health.
Implementing tailored repayment plans, such as debt consolidation or debt management programs, can alleviate the stress of multiple liabilities.
You don’t want to be at a point where you must get out of debt ASAP. Employing debt payoff methods such as the Snowball and Avalanche techniques can accelerate the journey toward being debt-free.
Credit counseling is often necessary to dig into the root of spending problems because it provides professional guidance on budgeting and debt management. Thus, helping individuals restructure their financial practices and develop a targeted plan to overcome excessive spending habits.
Frequently Asked Questions (FAQs)
Debt represents money owed across various agreements, while a loan is a specific form of debt where money is borrowed under agreed repayment terms and interest rates.
The most common debts include mortgage debt, credit card debt, auto loans, and student loans, reflecting the widespread financial needs for housing, education, transportation, and consumer spending.
Opting to pay off higher-interest revolving debt first generally saves money and boosts credit scores more effectively than tackling installment loans, due to the compounding effect of revolving debt interest.
This is a personal decision and one you must decide on yourself.
Which Consumer Debts Make Sense to You?
In conclusion, the takeaways are not all debt is created equal, and each type can affect your financial future differently. By recognizing whether a debt is secured or unsecured, or if it revolves or is due in installments, you can better strategize how to handle your obligations.
This knowledge is not only beneficial for making decisions about new loans or credit lines but also for creating a robust plan to tackle existing debt.
Comprehending this area of financial literacy, you position yourself to make wiser decisions that align with your financial aspirations. Ultimately, striving for a future where debt works for you, not against you.
By gaining a deeper understanding of the characteristics and consequences of each debt type, you can not only avoid common pitfalls but also harness debt as an instrument to build wealth and secure a robust financial future.
Then, you can stick with these debt free living habits.
Source
Experian. “Experian Study: U.S. Consumer Debt Reaches $16.84 Trillion in Q2 2023.” https://www.experian.com/blogs/ask-experian/research/consumer-debt-study/. Accessed May 7, 2024.
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It ought to be as easy to end a paid subscription service as it is to start it, but that’s not always the case. Have you ever had to make a phone call to cancel something you signed up for online?
The disincentives are by design, says Erin Witte, director of consumer protection at the Consumer Federation of America. Extra hurdles may include having to click through multiple links to find the cancellation page, make the dreaded phone call to customer support or even send a written request to end service.
Perhaps you’ve let an unused subscription linger — whether it’s for a streaming service, meditation app or the local car wash — simply because the monthly charge goes unnoticed.
A 2022 study by brand insights agency C+R research found 42% of consumers have forgotten they were still paying for a service they no longer use. The same study, based on responses from 1,000 self-reporting consumers, found that, on average, consumers underestimated what they spend on monthly subscriptions by $133.
“Automatically recurring subscription plans often capitalize on people forgetting that they signed up for something, and then making it very hard to get out,” says Witte.
A rule proposed by the Federal Trade Commission in March 2023 aims to correct burdensome cancellation tactics and help consumers remember what they’re paying for.
Called “Click to Cancel,” the rule would require companies that sell subscriptions to make canceling a service as simple as it is to sign up (e.g., if you join online, you can cancel on the same website in the same number of steps). It would also require companies to send an annual reminder to customers before automatic renewal.
The rule, which is still pending, could help consumers save money. While you wait for broad change, here are several strategies to stay on top of subscriptions.
Understand how subscriptions impact your finances
“Being aware of the problem is always the first step,” says Witte. She’s encouraged by the expanding narrative around the impact of subscription services on consumer budgets and shady ways to keep customers enrolled.
“We’ve seen a huge increase in subscription services being used by businesses, sometimes in ways that consumers don’t even necessarily meaningfully consent to,” says Witte.
A survey commissioned by the attorney general’s office of Washington state in 2022 found 59% of Washingtonians may have been unintentionally enrolled in a subscription service when they thought they made a one-time purchase.
Last June, the FTC sued Amazon for allegedly enrolling people in its Prime membership service without consent and setting up obstacles that made it difficult for members to cancel.
Witte says the burden shouldn’t fall on the consumer, but for now it’s a good idea to explore a company’s cancellation process before you sign up. You can also set a calendar reminder for the end of any trial period, so you can decide before automatic payments start.
Give yourself the chance to make a choice
“When we pay for things individually, we feel ‘the pain of paying,’” says Uma Karmarkar, associate professor at the University of California San Diego. More immediate payments, like a store purchase or a meal at a restaurant, can conjure a feeling of loss, especially when you hand over cash. But with subscriptions, you typically add your card upfront and pay passively thereafter.
Karmarkar uses the example of buying coffee out every day. Common advice is to cut out one pricey latte a week if the habit is hurting your budget. But maybe your daily latte brings you enough joy to justify the recurring purchase. The key is you get to make the choice each day to do so or not.
Your credit card bill is a good place to start, and you can tally up your subscription costs in a budgeting app, spreadsheet or on a piece of scrap paper. When you see a charge from ViacomCBS streaming, it’ll remind you that you still pay for Paramount+ and don’t plan to watch the “Paw Patrol” movie again.
A regular look at your credit card transactions is also a good way to note price increases you may have missed in your email. The cost of NBC’s Peacock streaming service, for example, will increase by $2 a month starting in July.
When it’s time to cancel, consider how you signed up for the service to plot the right path. For example, if the service is linked to your Apple account, you can cancel on your iPhone.
Recognize emotional triggers
Added friction aside, you may have to deal with the trepidation that comes with ending some services.
Have you ever canceled a music streaming service, only to be reminded of everything you’ll be giving up just before you quit — playlists, unlimited skips and offline listening? The thought of cutting off unfettered access to the world’s catalog of music tracks could stop you in your tracks or stay with you until you reactivate the paid tier days later.
Then there’s the low price offer that services will dangle in front of your face to encourage an impulsive extension. “Would you like three more months at half price?”
The FTC’s “Click to cancel” rule would also require companies to ask consumers whether they want to learn about additional offers before making such pitches.
The uniform regulation could bring welcome change for consumers inundated with monthly charges.
“One thing has become very clear as the narrative around this particular issue grabs hold, and it’s that people are tired of it,” says Witte.
For now, it’s on all of us consumers to make sure we’re not spending money for nothing.
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I started working with a client a couple years ago whose incoming portfolio was 20% Starbucks. That’s a lat(te) in one stock. I’ll see myself out.
ugh…
For comparison, Starbucks comprises 0.20% of the S&P 500. The S&P 500 should only be a portion of an individual’s stock holdings, which are only a portion of an overall portfolio (with bonds, alternatives, real estate, whatever). 20% is way too much Starbucks.
When I started explaining this thought process, the client protested. “Jesse – there’s a Starbucks on every corner in America. Why would we sell it?”
This logic is very understandable. After all, there is a Starbucks on every corner in America. The premise is true. But this client’s conclusion—“Therefore, why sell Starbucks?!”—doesn’t follow his premise.
That’s the logical misstep we’ll dive into today. A “good company” doesn’t always make a “good investment.”
Lessons from History
My hometown pride, Kodak, was once one of the most visible companies in the world.
It would have been easy to sit there in 1985 and think,
“Kodak is everywhere. They own the global film market the same way GE owns consumer electronics and Sears owns department stores. Why would I ever diversify out of Kodak?”
A seemingly logical investor
Well…
That’s a share price going from ~$90 per share to zero in about 17 years. The stock market and economic history are littered with “good companies” going broke. It’s called “creative destruction” and is an essential part of a healthy economy.
But it’s terrible if you happen to own those specific stocks.
It’s Not About Popularity or Frequency
Investor Peter Lynch is known for many quips, perhaps none more famous than:
“Invest in what you know. Know what you own and know why you own it.”
Unfortunately, many investors interpret that quote as:
“Invest in what you’ve heard of, and own it because you’ve heard of it.”
…and what they’ve heard of, naturally, are popular consumer brands and companies with a “high frequency” in society e.g. those with many stores, many products, long histories, etc.
But what Lynch actually meant in his quote is: “The more familiar you are with a company, and the better you understand its business and competitive environment, the better your chances of finding a good ‘story’ that will actually come true.”
You can’t just “know” Starbucks because you enjoy its coffee or because you see it on every corner. You must “know” its business fundamentals, competitors, potential future paths, etc. The market does not care about popularity or frequency alone. It only cares about popularity and frequency insofar as those factors positively or negatively affect the objective fundamentals of the business.
Past vs. Future
Riffing off the previous stanza, concepts like “popularity” and “frequency” are both hallmarks of a company’s past. The stores you see, the brand’s standing in our culture, and the company’s heretofore investment returns are all a function of what the company has done in the past.
But the stock market is forward-looking. The thousands of investors who buy and sell stocks and determine their daily prices don’t care about the past. They are, quite literally, trying to predict a company’s future. They are pricing in that anticipated future into today’s fair value.
Quite understandably, most investors don’t do this. They either shape their opinions based on the past (popularity, frequency, past investment returns, etc.) or they react to current-day news. These are both mistakes.
The intelligent investor thinks about the future. But any statement akin to, “Company ABC will be great in the future,” is a challenging statement to make accurately.
Wonderful Company? Fair Price?
Nothing against Peter Lynch, but most of you know I’m a fan of Uncle Warren, who is famous for saying:
“It’s far better to buy a wonderful company at a fair price than a fair company at a wonderful price.”
Even if Starbucks is one of Buffett’s “wonderful companies,” is it trading at a “fair price”? Most people – including many investment professionals – are terrible at determining what a “fair price” truly is. Price is a defining feature of any investment!
I frequently use the “Honda Civic” example to explain this idea.
Is a Honda Civic a fair car? Sure. A good to great car? Quite possibly! Would you be happy owning a new Honda Civic? Many of you would say, “Sure, why not?”
But would you pay $100,000 for that new Honda Civic? No way.
It’s not enough to say, “Starbucks is a good company. Perhaps a great company.” That’s challenging enough on its own. But we must go further and ask ourselves if Starbucks is trading for a “fair price.” And quite simply, most of us are terrible at determining what “fair price” truly means – at least when it comes to stocks.
Needles
I’m biased, but I’m a big fan of this article I wrote in May 2023. I won’t rehash it too much here, but I encourage you to read it right now.
In short:
Most stocks perform worse than simple Treasury bonds
Only ~4% of stocks (or 1 in 25) account for all historical stock market outperformance over bonds
Anytime your odds are 1 in 25, you should think hard about your actions.
Sizing and Allocation
Play along with me. Let’s assume, for the sake of argument, the client was correct. Because Starbucks is everywhere, it must be a good stock to own, and it’s trading at a good price.
If that’s true, does it necessitate Starbucks should comprise 20% of our portfolio? Put another way: are there only ~5 good companies in America?
Any way you cut the biscotti, a 20% position is severely overweight. In financial planning, we want to reduce our range of potential outcomes. That’s why we diversify. Having 20% of your money tied to one single stock leads to a wide range of potential outcomes.
Closing the Cafe
For what it’s worth, the client did listen to our counsel and has been divesting out of Starbucks (as tax efficiently as possible). This past week’s ~17% drop in Starbucks’ stock price hurts, but not as much as it would have two years ago.
I’m sure there are more reasons not to own a few single stocks, not to own Starbucks specifically, and not to have too many eggs in any basket. What do you think? If I’ve missed some low-hanging fruit (salad) in terms of my reasoning, please leave me a Comment below!
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-Jesse
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