The Docket April 2020 - Page 17

P E R S O N A L F I N A N C E A N D BA N K R U P TCY Irrational exuberance strikes again! By MARK MARTELLA, Esq. Icard Merrill T otal household debt in the United States increased in the fourth quarter of 2019 by $193 billion to reach a total of $14.15 trillion for the end of 2019 . This marks the 22 nd consecutive quarter that there has been an increase. To get some perspective on this amount of debt, these five and a half years of continued growing debt has put us $1.5 trillion dollars higher than our total previous high debt in the third quarter of 2008. We all remember what happened back then. Accord- ingly, the “irrational exuberance” I am writing about is not what former Federal Reserve Chairman Alan Greenspan was talking about in the 1990’s with the stock market and the dot.com bubble. What I am refer- ring to is the American consumer’s addiction to credit and the “irrational exuberance” mindset consumers have when it comes to the use of credit, whether we are examining mortgages, credit cards, car loans or student loans. By trade, I am not an economist. My practice primarily consists of consumer bankruptcy representation and debt negotiation. The statistics I cite above are put out by the New York Federal Reserve on a quarterly basis. However, in my 32 years of practicing, I have lived through two economic downturns before, and the tea leaves seem to be pointing in that direction again based upon what I am seeing in my practice, despite the record highs in the stock markets and real estate sales. (I would note that as I write this article, the Dow closed down 3,583 points for the last week in February, its worst week since October 2008 according to a CNN Business report, due to fears about the spread of the coronavirus. The S&P and Nasdaq had similar declines.) Here are some more sobering numbers from the fourth quarter 2019 New York Federal Reserve report: 1.) new mortgage loans jumped to their highest volume since the fourth quarter of 2005. As I will explain in more detail below, my concern is that this increase was driven by a big increase in refinances; 2.) there were $159 billion new auto loans in the fourth quarter, increas- Mark Martella, Esq Icard Merrill ing the total balance by $16 billion; 3.) credit card debt increased by $46 billion; and 4.) student loan debt increased by $10 billion to $1.51 trillion. The negative repercussions of this growing debt as stated in the Report include: 1.) transition of mortgages into serious delinquency (more than 90 days late) increased by 17.4%; 2.) 11.1% of student loan are in default; 3.) 5.32% of credit cards are more than 90 days late; and 4.) 202,000 consumers had a bankruptcy notation added to their credit report, up 7000 for the same quarter in 2018. I would also note that according to the Bankruptcy Court statistical reports for the Middle District of Florida, after several years of declining filings, bankruptcy filings are up the past two calendar years ( http://www.flmb. uscourts.gov/statistics/ ). These trends are alarming to me based upon my past experience. N ext, I would like to share with you the three biggest problems I see with my clients’ finances that lead to disaster. First, too many consumers are living based upon their maximum earnings. They spend every dime of their paycheck and buy the biggest house or fanciest car the bank says they can afford. Just because a bank is willing to give you a loan, especially a car loan, doesn’t mean you can afford it. For example, a couple making $80,000 a year with two kids under 12, cannot reason- ably afford two $500 car payments, even though they will qualify for the loans, when you consider all their child-rearing expenses. Nevertheless, I see it all the time with my bank- ruptcy clients. The problem with this kind of spending is that all it takes is for one party to lose a job, or get hours cut, or overtime eliminated, and now they can’t afford all their expenses and start relying on high interest credit cards. The second issue I see is the fact that people fail to create a monthly budget or, if they do, they don’t follow it and track it on a daily basis. I have even had some clients meet with me at their initial consultation where I have them do a budget and they realize for the first time that, even if we eliminate all their credit card debt, they still can’t Based upon what I have seen in my practice the last 32 years and, based upon the axiom that “history repeats itself,” now is the time to prepare for the inevitable economic downturn coming our way. pay all their bills because of their high fixed expenses. That realization becomes a very sobering moment for these couples. The third problem I see are consumers who do not have an emergency fund or even a plan to create an emergency fund, of at least three months of monthly expenses, but preferably, six months. By having this type of savings, it can help them through some of the rough waters should the economy change and their income decrease. Unfortunately, due to the lack of emphasis on savings vs. using credit, most people don’t have an emergency fund. Again, without this emergency fund, they turn to high interest credit cards to get by when their income unexpect- edly decreases. When faced with a cash flow shortfall because of outside economic forces, I see my clients make these three big financial mistakes. First, as stated above, they rely on high interest credit cards to make ends meet. This leads to a vicious cycle of making minimum payments where it will take 20 years to pay the debts off. The banks love minimum payment makers! Second, consumers will pull out the equity in their home to pay off high interest credit cards. This is foolish, especially in Florida, because of the Florida Constitution’s home- stead exemption that protects one’s homestead from judgment creditors. By taking out a second mortgage to payoff credit cards, you are convert- ing an “unsecured claim” into a “secured claim” and, if you can’t pay your second mortgage, you now can lose your home to foreclosure, when before, your house was protected from a credit card judgment. Third, clients often take money See EXUBERANCE , Page 18 The Docket · April 2020 17