Thursday, April 19, 2012
Ask Orthonomics: Stay Out of Debt
I received this "Dear Orthonomics" comment from my previous post regarding K-12 loans to which I would like to apply: Do not do this under any circumstances.
I should add that I spotted this article in a frum publication and it was rewritten slightly, nearly hailing the arrival of the K-12 loan. Boo!
Can k-12 student loans be discharged in a bankruptcy? I know that you usually can't do this with college loans. I send my kids to a Jewish community day school and was advised by a friend that I could take out one of these loans and have it taken care of via Chapter 11 or 13 if I run into trouble. I have also thought about taking out a loan against my house and my wife's 401K. We had a lot of expenses this year due to my son's bar mitzvah and my wife had her hours cut at work. We would welcome any suggestions.
My advice: don't. Secondly, stop listening to well meaning, but sorely mistaken friends. While I don't know if private K-12 loans can be discharged, bankruptcy is never a plan. Besides the complete lack of yashrut and the evil of borrowing with no viable plan to repay, a bad credit rating is a sure way to make sure that underemployment turns to a permanent scar on employ-ability. Credit rating is becoming increasingly important in the hiring process. If you need a security clearance, you will be in hot water. As I understand it, while bankrutcy isn't an automatic black mark and the circumstances can be evaluated, I can't imagine making a bar mitvah will be deemed as anything but irresponsible. While I have no idea what you or your wife do, I do know that a clean credit report is to your benefit. I also know that when you aren't chasing your tail out of desperation, that your mind is clear to dealing with financial blows.
Regarding borrowing from a 401k, once again, don't! Borrowing from a 401k is a particularily poor way of borrowing to provide what you don't have the cash t oprovide. There is a 10% penalty on early withdrawal. Then each dollar is subject to the highest marginal rate at the state and federal levels. And, if you phase out of available tax credits, which is quite likely, you will take another tax hit. Before you know it, the $30,000 became $20,000 and if you didn't pay up enough taxes, you can end up with a non-dischargeable debt to the IRS and your state's tax authorities. Not smart.
So what do you need to do. Draw up a budget that takes into consideration the new reality on the ground. The spending must be matched to income from current sources and anything that doesn't fit into the budget has to head to the chopping block. No 401k loans, no HELOC loans, no K-12 loans. Certainly not "creative", but sound advice nonetheless.
[Update: I apologize for not reading more carefully. I get asked all the time about early w/draw on a 401k. Regarding borrowing, my answer is the same even if there are advantages to this type of loan, as there are advantages to borrowing against a home for school instead of taking about a K-12 loan. This isn't about the fancy math, but about now living above your means and if you have to take from savings, that is a signal you are above your means. If you don't have liquid savings to take from, and must turn to retirement savings, kal v'chomer. I know it is painful to have to forgo on something expected, but we can't bankrupt ourselves in the name of a bar mitzvah, wedding, or even day school tuition].