The benefit of debt

I wanted to share a recent article by  Michelle Singletary.  Ms. Singletary offers some wonderful advice to future home buyers and I’d like to provide the lender’s perspective.  In this post, I’ll address the first reader’s question, in which Ms. Singletary advises a potential homebuyer with $12,000 in savings and $11,000 in debt from a consolidation loan to pay $5,000 toward the loan and accelerate remaining payments. 

As a lender, I would recommend leaving the $12,000 in savings.  I agree that there should be 3-month’s worth of reserves removed from the $12,000, so if it helps you to physically put this in a different savings account I would recommend doing so.  Paying down unsecured debt is a great goal, for the most important reason is that this kind of debt generally carries a higher interest rate then a loan with collateral.  Adding extra on the payment when able is a good habit with any kind of monthly obligation as this will allow you to pay the debt off sooner.  The potential home buyer in this example makes it sound as though this consolidation loan is their only debt.  If this loan was heavily paid down with the author’s suggestion, and then rapidly paid off, there would be no more monthly obligation.  This is great, however, credit scores are calculated on several factors, and the factor that carries the most weight in the calculation is Payment History.  If your payment history is no longer being reported because your debt is paid off, then there is no ability to calculate a credit score.  A lender needs a credit score and history, to weigh the risk of what type of borrower you are as of the day the credit report is pulled. 

What I read from the potential home buyer’s question is that they want to buy a home.  I would need to find out more information on how much they are paying to rent the current condo.  Their rent could be more then the cost of having a home of their own.  With the current real estate market, there is no better time than the present to find out how your current rental situation compares to owning a home.  Rates are low, and there are a lot of homes for sale right now.  I have programs available that are geared towards first-time home buyers, or current home owners looking to upgrade.  There is no cost to find out whether home ownership is right for you and no better time to do so.