But as has been the case for so many homeowners in recent years, the Cartwrights' dream became a financial nightmare. Despite their steady jobs—they both work for their local school system—and combined net income of $6,476 a month, the couple found it hard to pay their mortgage of $2,641 while also covering their other monthly bills: $1,125 toward their whopping $37,000 in credit card debt, $700 for two car loans, $350 for student loan payments, and $300 for their daughters' childcare. In no time at all, the Cartwrights were drowning in bills.
So in August 2009, they were relieved when their mortgage lender agreed to put them into a trial modification (part of an initiative introduced in 2009 to assist struggling homeowners), reducing their payment to $1,450. During the next 14 months, as they waited to hear whether they would be granted a permanent modification, Hank and Diana faithfully paid their mortgage on time. Yet just a few days before I spoke with the couple last November, they had received notice that the bank intended to foreclose. The only way the Cartwrights could save their home was to resume paying the full $2,641 a month, and retroactively pay the amount that had gone unpaid during the trial period, as well as a barrage of surprise penalties and fees added on by their lender: a total of $38,000. With no emergency savings, they were out of options.
How had this happened? The Cartwrights' mortgage lender had approved the trial modification without verifying the couple's eligibility (to qualify, your mortgage, including insurance, taxes, and homeowners' association dues, must amount to more than 31 percent of your gross pay; the Cartwrights' did not).
They had been misled—but it was time to make a plan. I told the couple that the smart thing to do was let go of the house and find an affordable rental. They had never truly been able to afford the home, and had money problems even before they purchased it: In addition to their significant debts, Diana had declared bankruptcy in 2005. Hank and Diana needed to create a future rooted in financial responsibility. There is nothing wrong with renting, I told them, if it allows you to meet your financial obligations and goals.
The couple knew their choices had contributed to their predicament. "We have no one to blame but ourselves," Diana says. I'm not so sure about that. The bank that greenlighted a no-down-payment loan to someone two years out of bankruptcy bears some guilt here, too. But I applaud the Cartwrights' willingness to accept responsibility and move forward.
Here's the action plan I recommended
*The couple's names have been changed.
Now that the bank has initiated the foreclosure process, the Cartwrights should not make any more payments. But they must take the full amount they were paying and put it into savings. When the time comes for them to move—it could be in two months, six months, or even longer, given the tremendous backlog in foreclosed homes—they will need to have plenty of cash to make a hefty security deposit on a rental. The Cartwrights' FICO credit scores were in rough shape before the foreclosure notice, and when we spoke, Hank's had fallen to 531. On a scale of 300 to 850, that's very low, and it will make it harder to convince a landlord to rent to them. But by offering a security deposit of as much as six months, they will likely be able to allay a landlord's concerns.
2. Do Pay the Credit Card Companies
While the Cartwrights cannot afford their mortgage, Hank is clear about wanting to continue to pay down the credit card debt. "I'd really like to make good on this," he says. I support that all the way—making sure to never miss these payments is their best hope for raising their credit scores.
3. Scale Back
I challenged the Cartwrights to scour their spending for ways to come up with the $350 they need for the student loan payments. I noticed that they spend a combined $250 a month on their landline, cell phones, and cable. I want them to get rid of the landline and reduce the cell and cable plans so the bill doesn't exceed $100. That's $150 right there. We also agreed there would be no vacations this year, saving another $1,000, and that their $130 monthly restaurant budget needed to be reduced.
4. Get More Protection
The Cartwrights have term life insurance policies, but they aren't large enough. Right now the policy on Hank's life is for $400,000 and Diana's policy is for $300,000. I want them both to have $1 million policies. If anything were to happen, the surviving family members could cover living expenses with interest income, rather than eating into the principal too quickly. Filling in the shortfall between their current policies and the $1 million benefit should cost them less than $100 a month combined. I also gave the Cartwrights free access to my Protection Portfolio, available at SuzeOrman.com—it's a kit that helps you generate standard legal and financial documents. I told them they needed to create a will, a trust, and an advance directive that would spell out their healthcare wishes if they are ever unable to speak for themselves. These are all must-have safeguards.
5. Focus on Saving
I asked Hank and Diana to research the going rate for rentals in their town; they hope to stay in the same area so the girls can keep attending the strong public schools there. Most rentals fall in the $1,500 per month range—$1,000 less than their current mortgage. That extra money must go toward building an emergency savings fund that covers eight months of living expenses. Once that's accomplished, they need to get serious about saving for retirement.
6. Accentuate the Positive
I encouraged the Cartwrights to view this juncture in their life as an opportunity, not a punishment. Losing this home won't be easy. But the money they save will be the foundation for a much brighter future.
Next: What you should know before applying for a mortgage modification
More Advice from Suze
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- 7 deals you should never make
- 9 small financial steps that will pay off big in the future
- Your money blueprint for 2011
Ask Suze your questions about debt and saving money
Suze Orman's most recent book is Suze Orman's Action Plan: New Rules for New Times (Spiegel & Grau).