A credit squeeze among financial institutions has lately been creating a panic on Wall Street. In one week we've seen the forced liquidation of Lehman Brothers, the sale of Merrill Lynch and a government takeover of AIG.
But the same dynamic has more quietly been creating havoc in the lives of ordinary Americans for the past year: A person (or a firm) takes on too much debt and finds with a shock that they can't pay their bills and they can?t borrow any more money. It's not a pretty sight.
Consider the working-class couple in their 40s who recently visited the office of Stephanie Bittner, director of community outreach and education for the Consumer Credit Counseling Service of the Delaware Valley. The residents of Philadelphia were eager to move into a dream house in New Jersey they had recently purchased. It was financed with an adjustable-rate mortgage which they reasoned they could afford once they sold their old house.
As the real estate market soured, the Philadelphia house would not sell. They soon fell behind in both mortgages. When they sought credit counseling, Bittner quickly realized that the couple could not afford their dream house even if they sold their property in Philadelphia. The news came as a shock.
"The woman stormed out of my office," said Bittner, whose organization may double its client base this year. "It was definitely a no-brainer," she said. "There is no way that they would have ever been approved today."
Changing Times. The couple got their mortgage at a time when credit standards were less stringent and the real estate market stronger. "We are not in the same environment that we were in 2005 and 2006 when underwriting standards got very lax," says Keith Leggett, senior economist at the American Bankers Association. In the past, consumers were able to get so-called liar loans in which they did not have to verify their income level. "There has been a tightening of standards."
• Check your credit report to see if there are any errors which could be hurting your score before making any major purchase. Fair Isaac, which developed the score, recommends that people review their reports quarterly and even monthly.
• Make sure that your bills are current. Creditors won't look kindly on a consumer with past due accounts.
• Put down more money up front. Larger down payments are better in the eyes of banks because less money needs to be borrowed. "That means you are less of a risk to a lender," Bittner said.
• Shop around. Banks have different lending standards and consumers may find better rates if they comparison shop.
• Don't max out your credit. That will make it more difficult to borrow for future purchases.
Today, buying anything that requires credit is harder than it used to be. Banks, which used to send credit card and mortgage refinancing solicitations on an almost daily basis, have ratcheted up their lending standards, making borrowing more difficult for the most stalwart of consumers.
Deals, though, are available for financing everything from home equity loans to cars to flat screen TVs. Zero percent financing is still available at times. Experts advise consumers to be cautious. Bittner had the following tips:
Check your credit report to see if there are any errors which could be hurting your score before making any major purchase. Fair Isaac
, which developed the score, recommends that people review their reports quarterly and even monthly. ˇ
Make sure that your bills are current. Creditors won't look kindly on a consumer with past due accounts. ˇ
Put down more money up front. Larger down payments are better in the eyes of banks because less money needs to be borrowed. "That means you are less of a risk to a lender," Bittner said. ˇ
Shop around. Banks have different lending standards and consumers may find better rates if they comparison shop.ˇ
Don't max out your credit. That will make it more difficult to borrow for future purchases.
Fair Isaac also notes that lenders take other factors into consideration for credit besides the FICO score, such as employment history. Consumers should also be aware that making too many requests for new credit is a red flag for lenders. "People with six inquiries or more on their credit reports are eight times more likely to declare bankruptcy than people with no inquiries on their reports," according to Fair Isaac.
Finally, consumers should be especially cautious about hiring companies that promise to "repair" their credit. As the Federal Trade Commission notes
, "No one can legally remove accurate and timely negative information from a credit report." Many of these firms are probably scams.
Families struggling. Lured by cheap interest rates, many consumers simply took on more debt than they could handle. Data from the American Bankers Association show that the percentage of home equity lines of credit more than 30 days past due rose 14 basis points (0.14%) to 1.10 percent in the first quarter on a seasonally adjusted basis. That's the highest recorded rate since the ABA began collecting this data in 1987. Bank card delinquencies soared by 13 basis points during that same time.
People have run through their savings and are now being forced to live off early withdrawals from their retirement plans, said Scott Scredon, spokesman for Consumer Credit Counseling Services of Atlanta, one of the largest debt counseling non profits in the U.S. that serves clients across the country.
"One client with a steady job and a solid credit score tried to help a relative climb out of $20,000 in debt," he said in an email interview. "He called us after he suffered a job loss and was struggling to pay the relative's debt."
Unfortunately, many consumers are seeing their credit scores plunge since they are falling behind in their bills. This makes it even more difficult for people who need to borrow money to get it.
Some consumers are trying to push their luck. Brad Benson, who owns a Hyundai and Mitsubishi dealership, in South Brunswick, New Jersey says one customer got rejected for credit because he already had several vehicles that had been repossessed.
Benson says qualified consumers are able to get deals, but there are a lot more customers applying for financing with lower credit scores. Automobile dealership customers are able to get deals such as zero-percent financing if they are credit worthy. These types of promotions were recently offered by General Motors, Ford and Hyundai on selected models. Financing deals also are available on consumer products such as laptops and flat-panel televisions.
Benson, a former player with the New York Giants, says his business has been stable. But tightening credit markets pose a tough challenge for businesses that depend on consumers being able to finance their purchases.
Raymour & Flanigan, one of the largest furniture retailers in the Northeast, has not noticed any increase in customers getting rejected for credit, said Chief Financial Officer Jim Poole. "We have strong relationships with our financial partners and a very capable in-house credit department so we can provide options for customers to work within their budgets," said Poole in a statement. "Our customers have sound credit with good repayment histories."
Dreams deferred. Consumers, though, may find it difficult to get credit in the months to come if the economy continues to deteriorate. "In a period where the economy is showing anemic growth, banks are going to become more cautious," said the ABA's Leggett.
Other Bittner clients with good credit have complained bitterly about the hassles they face getting a mortgage. One couple had an 800 FICO score and planned to put down $100,000 on a $300,000 property. "Normally, that is a mortgage company?s dream client," she said. Instead, Bittner said the man felt he was, "being treated like a criminal" because of the excessive amounts of documentation.
Tougher credit standards should ultimately prove in the best interest of consumers since fewer will get swamped by debt. Digging out from crushing debt is painful, as Bittner's clients with two houses they couldn't afford, found. They had to sell their dream home and move back to Philadelphia to stabilize their finances. For now, their dreams, like those of so many Americans, are on hold until they can really afford them.