Wednesday, December 2, 2015

Ready or Not, 2016 Is Coming!

How Ready Are You?

If you’re like me, then it’s time once again to assess your yearly budget.  That is, it’s time to see how well you fared with forecasting your income and monthly cash-flow against your total expenses, savings and other set-asides throughout 2015.   With a new year fast approaching, it would be good to determine whether you are on a manageable pathway or whether you need to make year-end corrections in preparation for 2016.  I would especially recommend this exercise now before venturing out to spend what you may not actually have on holiday gifts, events and personal extravagances.

By now you should have a good and accurate understanding of your financial circumstances.   Ideally, what you inventory as your finances should belong to one of three main categories:  

1) Glad-Giving-   What you have donated throughout the year versus what you had planned to give.
2) Spending Budget-  What you set aside to pay your regular, anticipated and unexpected expenses.
3) Savings Budget-   What you purposely set aside to save (or invest) versus what actually occurred.

This assessment will allow you to either sleep better at night or realize why you haven’t been able to do so this past year.  Hopefully, you haven’t had too many sleepless nights.  However, if you did, you are not alone.

Debt-To-Income Ratio (DTI)

In a recent NerdWallet report, as of October 2015 Federal Reserve statistics show that Americans had some very real debt loads.  Specifically, their U.S. household consumer debt profile found the following results:  the Average credit card debt is $16,140; the Average mortgage debt: $155,361;  and, the Average student loan debt: $31,946.   This can be especially menacing when a consumer’s Debt-to-Income exceeds 20%.   
The mathematical computation behind this means a person earning $45,000 a year would carry a non-mortgage debt load averaging about $750 per month.   According to Clearpoint Credit Counseling Solutions and other credit counseling agencies, with a 15% DTI this usually sends a good signal to credit lenders about an individual while a DTI of 20% or higher would send a caution signal to potential lenders, especially mortgage lenders, as they think such a person is carrying more debt than reasonable to manage.

This is even more critical for mortgage lenders who factor in what are termed Front-end Ratio and Back-end Ratio formulas.  In other words, mortgage lenders try to assess the total impact as well as types of debt you as a lender might carry and be liable for.  This enables them to evaluate each potential lender using standard and non-standardized ratios based on the lenders income.

Here is what that looks like using the same calculation:

Using Yearly Figures: 
                Gross Income of $45,000
                $45,000 x .28 = $12,600 allowed for housing expense.
                $45,000 x .36 = $16,200 allowed for housing expense plus recurring debt.
Using Monthly Figures:
                Gross Income of $3,750 (or $45,000/12)
                $3,750 x .28 = $1,050 allowed for housing expense.
                $3,750 x .36 = $1,350 allowed for housing expense plus recurring debt.

Historically speaking, “The business of lending and borrowing money has evolved qualitatively in the post-World-War-II era.   It was not until that era that the FHA and the VA (through the G.I. Bill) led the creation of a mass market in 30-year, fixed-rate, amortized mortgages. It was not until the 1970s that the average working person carried credit card balances. Thus the typical DTI limit in use in the 1970s was PITI<25%, with no codified limit for the second DTI ratio (the one including credit cards). . .  In the following decades these limits gradually climbed higher, and the second limit was codified (coinciding with the evolution of modern credit scoring), as lenders determined empirically how much risk was profitable. This empirical process continues today.

Caveat Emptor

If this conventional process is good enough for the world’s banking systems to rely on as key in their lending criteria, then this same concept should help you evaluate whether there are potential threats looming in your financial future.  Whether evident today or merely a perceived undercurrent, discovering how you can avoid financial difficulties ought to be a high priority, even for those considered well-to-do.  Knowing what you spend and how you spend it is simply good responsible stewardship.

Giving Thanks With A Grateful Heart

Along those lines, determining whether to give as well as the amount to be given also speaks of good and faithful stewardship practices. After all, the earth is the Lord’s and the fullness thereof, the world and all that is in it (Ps. 24:1)  This means it is a good and honorable thing to acknowledge the Lord and be a blessing to others.   And for any New Testament adherent that does not believe in tithing, glad-giving can certainly be performed as cheerful and hilarious giving (2 Cor. 9:5-8)  practiced based on what you have determined in your heart to give (2 Cor. 9:7).  In fact, with over 1.3 million registered charities in the US alone, there is no shortage of giving opportunities to satisfy every donor type.

The Process

Whatever you do, do not be discouraged or upset with yourself or others that have some responsibility for your annual expenses.  It is only through trials that we learn and hopefully grow from each lesson.  And with the changes taking place in how we manage our finances, you should expect that some review and adjustment might be required.  

Today, FICO Scores still play an integral part in all consumers lending.  And as long as they do, learning to operate with set budgetary goals is one of the best ways to always meet your personal needs and the lending standards of the day.
And, if you do not have a process yet, might I suggest the following preliminary steps:

1.   Review your Credit Scores (all three)
2.   Review All months of your Banking Statements (deposits, withdrawals and savings)
3.   Review your Giving
4.   Determine Your DTI (Debt-To-Income Ratio) Using the Formula Above
5.   Add your Total (12 Month) Income Sources To Determine Total Income - Taxes
6.   Add your Total (12 Month-regular) Bills first, and Divide by 12 to Determine Monthly Expenses
7.   Determine whether your Monthly Income matches or exceeds your Monthly Expenses:

(If Expenses Exceed Income, then determine what you can adjust).
(If Net Income results, then consider Giving more or Saving).

Of course, for help with any part of this process, please consider how the LifePlanning Institute might be able to assist you.




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