Restoring America – Part II

By now we know the best way to get out of debt is not to get into it. But were in it and we’re in it together. Only the collective impact of a like minded body of individuals –  the American people – will cure the ills brought on by the past and present. It starts with the realization that our problems aren’t punishment for the past and they are instead the source of correction for a better future.

With this in mind, I have created a three part plan to restore the American family’s finances. A plan to rescue, restore and rebuild your financial future. I believe this plan can dramatically change the course of America, because it is in the conviction and will of an informed people where meaningful change finds the way.

I’ll tip the hat on the components of this plan in the blog posts to follow.

Restoring America – Part I

Could it be we were rescued from an economy that was simply an illusion? Just in time to get our act together?

Total household debt – mortgage, home equity loans, auto loans and credit cards – rose from $4.6 trillion to $12.5 trillion from 1999 to 2008. Stop and take a look at the chart, which depicts total household debt from 1999 to 2010.

What’s wrong with this picture? For starters, consumer spending traditionally accounts for 70% our economy. With a 272% increase in household debt from 1999 to 2008, it is obvious consumer spending prior to the crash was largely financed by the credit bubble. If we focus on paying off our debts, which is the right thing to do, how long will it take for spendable cash from jobs and earnings to replace spending that was previously financed? Contemplating the answer to this question should startle you.

Our economy was an illusion financed by the banks and spurred by consumption beyond our means. The resulting economic crisis, which may take decades to resolve is actually good for America, because it might have saved us from an unsustainable path just in the nick of time.  Perhaps we’re being rescued moments before going over the falls.

We should have been talking about this years ago – but most probably wouldn’t have listened. C.S. Lewis once said “God whispers to us in our pleasures, speaks to us in our conscience, but shouts to us in our pains: it is his megaphone for a deaf world”. Did not our conscious whisper to us when we racked up those credit cards? Did not our conscious whisper “how are you going to pay for this”? Did the collective conscious of government officials ignore the screams of reality? Was our national conscious trying to rescue us from ourselves?

We normally don’t face the truth until we have to deal with it. Pain is sometimes necessary to convince people they need to be rescued. It is the ultimate wake up call and a powerful motivator for change. We’re insolvent and it really hurts. Badly.

What are we going to do about it?

When all else fails – go Global. That’s what the Federal Reserve is doing with its move to Quantitative Easing. “QE”, as it is better known, occurs when the Fed buys US Treasury Bonds (which is a sexy way to say they are printing money to flood the economy through the banks).

The Fed has tried everything it can to get us to borrow and spend. It learned what it already knows – that it cannot force consumers to spend and banks to lend. So now QE is the last bullet in their gun, but it’s a shot that will be heard around the world.

By pumping $600 billion into “the economy”, the Fed will purposefully devalue the dollar. As a result, U.S. products become cheaper around the world and foreign goods become costlier in the United States. Americans become less likely to buy foreign products, and with exports becoming cheaper to the world, the Fed creates a trade advantage. It theoretically gets the world to pay for it’s mistakes.

But what happens if the other guy shoots back? China has for years. Their purposeful devaluation of the Yuan has made investment in China attractive, their labor cheap and it has built their factories. The problem is China had become dependent on global trade rather than it’s own domestic consumption. So if the U.S. fires one over the bow, they might be obliged to roll out a cannon and blast right back at us.

QE also reduces the return on US dollars, creating problems for developing nations as “hot money” flows into their coffers in search of a return. The same holds true for commodities – which rise as investors seek a return by any means possible. This then creates bubbles that are sure to pop when things unwind as investors dump their positions in commodities and developing nations.

About the only ones that stand to gain are those that get the trade right – and that’s the Wall Street bank that makes the right bet in order to gamble their way out of the mortgage/housing mess that was created by loose credit.

And so starts a global currency and trade war. Fears over this are the reason nothing was accomplished at the G20 summit. And the truth is, the United States should earn its way out of its crisis instead of piling on more debt that it can’t repay and then pulling off the QE stunt.

Your Government has Stolen the Trust Fund. It’s the money that should be sitting there to pay benefits under Social Security – and it’s gone, baby gone! Sad, but true, folks.

How They’ve Ripped us Off

Social Security is a “pay as you go fund”. That means that whatever comes in is each year used in the same year to pay out benefits. As I wrote in my last post, the extra that comes gets placed in a “trust fund” – to be set aside to pay benefits in future years. It’s been building for years – for the vast majority of time Social Security has been in existence.

By law, the Federal Government is allowed to put their hands in our cookie jar – not once, but twice:

1. The Government can take the money from the trust fund and give us an IOU.
2. Any money taken from the trust fund isn’t considered part of the Federal Budget, but they get to use it (read – spend it) any way they want.

Unlike a normal investment, there isn’t an asset that backs the trust fund – because the Government hasn’t invested our money – they have spent it! But don’t get heated just yet – the IOU backed by “the full good faith and credit of the United States”.

The Good Faith and Credit is YOU

Since the money isn’t there, how do you think the “good faith and credit” promise will be fulfilled? Remember – they have spent all the money. This means someone has to make good.

Newsflash: This means you and me. How? Higher taxes. Reduced benefits. And the Government money printing press. You and I don’t have one – but they do. And when they print up money, that reduces to value of your money by way of inflation. and therefore your benefits. Conclusion – printing money is the same thing as chopping your benefits – but it looks better because the Government can just claim they made good on the promise. Nice, eh?

Behind Bars

Let’s say you and I own a life insurance company and everyone we insure is 30 years old or younger. We collect premiums, blow the money as we wish, and give our insured customers an IOU. The problem is this – we don’t have a printing press. Therefore, when it comes time to pay the piper, we’ll end up behind bars.

This is why actuaries (people who value pension funds) are used to keep things in check. And while the Government uses actuaries to report on the health of the Social Security trust fund, they neglect to tell us that they’re reporting on an accounting fiction – that safe, secure trust fund that really doesn’t exist.

They should be behind bars.

Your Insurance Company Has Gone Bust. And no one in Washington is talking about it. Why? Because it’s political suicide to address the fact that it’s bust. And to admit the Government has literally stolen the money needed to pay benefits just isn’t going to happen (stealing they made legal by way of special legislation). And who wants to step up and say that it can’t be fixed without raising taxes, cutting benefits and completing an overhaul of the system?

Each year, the Board of Trustees of the insurance trust funds issues a report to the President, Vice President and the Speaker of the House about the health of Social Security and Disability.

Here’s the bottom line per the 2010 report (are you sitting down?):

• Social Security is upside down starting in 2015, which means that less will come in than needs to be paid out. This is true for the foreseeable future – which is defined as a 75 year projection under the reporting requirements.
• The Social Security Trust Fund will be completely wiped out by 2037.
• Disability is upside down by 2013 and the trust fund will be wiped out by 2018.

What’s this all mean? It means the money isn’t available to pay benefits unless the Government raises taxes, reduces benefits or does a combination of the two. As a matter of fact, the report concludes the following:

“If no substantial action is taken (emphasis added) until the combined trust funds become exhausted in 2037, then changes necessary to make Social Security solvent over the next 75 years will be concentrated on fewer years and fewer generations”

“The projected trust fund shortfalls should be addressed in a timely way so that necessary changes can be phased in gradually and workers can be given time to plan for them. Implementing changes sooner will allow the needed revenue increases or benefit reductions to be spread over more generations.”

What happens if we don’t act? We’d have to either significantly raise Social Security taxes or reduce benefits by 25%.

The Problems

The main problems are that life expectancy has increased about 15 years since Social Security was introduced and the birth rate has declined to the point that the number of workers paying taxes are insufficient to support the retiring baby-boomer generation.

But there’s more to the story. For example, we’re a country of spenders, not savers. A full two-thirds of Americans currently rely on Social Security as their primary source of retirement, even though the program was never meant to act as such (it was meant to be a supplement and be targeted at widows and others that did not have the means to save).

Alas – this is the least of it. There’s more.

The Trust Fund is a Scam

The trust fund is the money supposedly set aside to make payments to retirees and the disabled. The 2010 report tells the story by way of the following picture:

As you can see, the money “set aside” to pay benefits is exhausted by 2037 and goes negative from that point forward. Yes, I have already highlighted this issue, but the reality is this:

The trust fund plain doesn’t exist! It’s amounts to “accounting fiction” or a bunch of “hocus pocus” at best – because your Government has already legally stolen this money.

That’s right. It’s GONE – and my next post is going to demonstrate how you’ve been robbed blind.

NOTE: A copy of the 2010 Trustee’s Report can be viewed at the following link:

http://www.socialsecurity.gov/OACT/TR/2010/

I’ve been talking to homeowners recently that have received mortgage modifications that just aren’t going to work. To these homeowners, it’s a big let down to grind through all the work and wait for months on-end obtain the papers only to find out that they can’t afford the modification.

Here’s an example that underscores the problem. One of the homeowners that called had an interest only 10/1 arm (fixed for 10 years and then adjustable) that was close to reset. The problem with this loan is that becomes “fully amortized” and adjustable once the interest only period expires. This means that the principal due at the end of 10 years (which will in most cases be what you started with) is now payable over only 20 years. This dramatically increases the payment due to the shorter term, even if your interest rate goes down by 1%.

The borrowers were in trouble, barely treading water. So they called their bank and were told they would not be able to do anything unless they became delinquent. The law firm they hired for $2,500 told them the same – so they stopped making payments. Now – listen to this – after 14 months of paperwork, dead end phone calls and mostly plain waiting, the modification papers arrive. There’s a cover sheet that shows monthly payment of $1,500 (less than the original payment) and a new maturity date. The loan balance had been increased by $50,000 to account for back interest and monthly late penalties over the 14 month waiting period.

At 3%, the modified mortgage looked great, however, the new loan balance was now $600,000 because of the missed back payments and penalties. After reading the fine print and attempting to sort through the complex language, the homeowner called me to help interpret the paperwork. Further inspection revealed that rate would jump to 4.875% in 2016, with a 25 year amortization. The new payment at that time would jump to $3,464 – almost $2,000 more per month.

The homeowner was in shock when I told her this was a great deal from a rate standpoint. The originally adjustable mortgage was converted to a fixed rate below 5% for the duration of the loan after paying only 3%. Here’s the problem, however: affordability is only temporary with that huge looming payment – and the truth is, this would have been the case had there not been a mortgage crisis, since the original loan was adjustable and would have surely jumped to something higher than 5%.

What’s the bottom line? If you can’t afford your current mortgage, you must investigate the reality of the situation and determine if a loan modification will be a band-aid that they’ll rip off while there’s still a scab. The bank in this case dragged their feet for 14 months, while late penalties continued to accrue. The attorneys the homeowners hired didn’t review their financial condition and, in my opinion, should have been able to give them an idea of that a modification wouldn’t work prior to allowing them to rack up another $50,000 in debt.

In their case, since there was no way they could afford the home at the onset, foreclosure would have been a better option (something the bank was motivated to stall, since the home was worth only $400,000 when the process began).

So these homeowners got dragged along a road that led them in a great big circle – right back to where they started. Facing foreclosure.

Th lesson is thus: don’t fear foreclosure as the end of the world if you can’t possibly afford your home. Renting isn’t a bad option considering what might happen if you get sucked into the false hope of a loan modification.

Income Taxes

Did you know that the Federal income tax allows your government to exercise virtually unlimited control over your life? It’s true. Read on.

The Federal Income tax, along with the Federal Reserve’s ability to print money and the debt taken on by the United States, has allowed our Federal Government to grow to the point that it now represents 25% of Gross Domestic Product (GDP). This essentially means the public sector accounts for one-fourth of our economy, a burden that is taken on taxpayers. And almost all of this growth has been manipulated without your approval – because they don’t need it and most citizens don’t understand what’s being done.

The Consumption Tax

“The Republic for Which it Stands” no longer exists, thanks to the Federal income tax. A Republic is a limited form of government, whose primary duty is to see to it our national security is never at stake. The Republic is to allow the states to govern themselves – with little Federal intervention in the lives of the people. The consumption taxes levied prior to the introduction of the income tax guaranteed this premise. Here are three simple reasons:

1. Transparency - with a consumption tax, you know exactly what you’re paying. There’s no complex tax code for the government to hide behind – everyone, regardless of income levels, is privy to the same information.
2. Restricting Growth – Since consumption taxes are transparent, the government can’t pull a quick one the people. If the government wants to grow, the pain is felt across the board. If they increase taxes on groceries – everyone sees it, and the majority of the citizenship suffers.The price of goods and services would have to grow to the point we’d throw a tea party before the government could grow beyond the means of its citizens to support it.
3. Reward Saving – If you don’t spend, you don’t pay taxes. This allows the citizen to accumulate wealth without the burden of supporting a growing government…..and a good nest egg provides one with many freedoms.

Consumption taxes mean freedom from the system – freedom from a growing and oppressive government.

The Solution – Tax Them Back to the Stone Ages!

Enter the Federal Income tax and now the government has a firm grip on its citizens. I’ll give you three reasons (believe me, I could give you 300):

1. Complexity - In complexity lies the ability to literally steal from the people. One tweak of the income tax code – hidden deep within its bowels – allows the government to significantly increase tax revenues without much notice. This is easily accomplished without minding the will of the people – take a look at the size of the tax code in the graph below and tell me all of us understand what they’ve done to us:
   
2. Winning the Minds of the Majority – Since the middle (upper and lower) comprise the majority of votes, “taxing the rich” becomes en-vogue. If you make $50,000 a year, you don’t have much compassion for someone that makes $500,000 – but you would if you did and found out that over 50 cents on every extra dollar you made went to the government. The income tax code create classes in society merely by controlling what people think by making it difficult to understand how their wallets are impacted.
3. Withholding – Perhaps the most wicked game of all is withholding. Since you’d be really tickedoff if you were sent a tax bill at the end of the year (and you wouldn’t have the money), the government withholds taxes from each paycheck. Worse yet, the tax code is written in such a manner to allow the government to over withhold – providing them with an interest free loan on the backs of its fine, hard working citizens. Most don’t mind, however, because they foolishly believe getting a tax refund is a good thing (the average tax refund is approximately $2,250).

If the income tax were abolished and replaced with consumption taxes, you’d feel as though we’d been taxed back to the stone ages. Since consumption is only a fraction of your total income, prices would rise by as much a 50% across the board to fund the size of our government. There’s no doubt most of us would have a good amount socked away without the income tax, so they’d have to go after your savings.

They might as well pull you out of your cave by the hair and leave you naked to the elements.

Quantitative easing occurs when the Federal Reserve buys Treasury bonds, which represent an IOU from the U.S. Government. When the Fed buys Treasury bonds in the open market, it’s like the US Government buying back its own IOU with newly created money. This is about as close to pure money printing as it gets.

Pulling on a Donkey that Doesn’t Want to Move Won’t Make him Walk

The following factors have the greatest influence on turning this economy:

1. Consumer attitudes towards spending and credit
2. Bank attitudes towards lending
3. Bank capital constraints
4. Businesses willingness to expand

By printing money, the Federal Reserve will pump more paper currency into the economy….and they are hoping we’ll borrow and spend like drunken sailors. Alas, but they’re forgetting one very important factor: if the consumer is unwilling to spend and borrow, there not a darn thing the Federal Reserve or the US Government can do about it!

They can’t lower interest rates any further, so there’s little doubt some the Fed will keep at quantitative easing until it “works”. The problem is the Fed already printed almost $200 trillion dollars buying mortgages in an effort to revive the back bone of the economy – housing. IT DIDN’T WORK. So what makes them think printing money is a good thing?

No Bullets in the Gun

The Fed is powerless at this point. It cannot:

• Create jobs
• Force banks to lend
• Force consumers and businesses to take on more credit
• Make you spend your money

Quantitative easing is no more likely to spur job creation, bank lending, and consumer spending in the United States than it did in Japan (which is to say none at all). The Federal Reserve is already stuck with all those mortgages it purchased with Monopoly money, and we got no closer to Boardwalk than Baltic Avenue. Now it’s going to be stuck with untold trillions in Treasury Notes while we all sit on the money under our mattress, refusing to pass “Go”.

So what can the Fed do? It can keep shooting blanks into the economy at the risk of your future and your children’s future.

Jefferson had it Right

“If the American people ever allow private banks to control the issue of their currency, first by inflation, then by deflation, the banks…will deprive the people of all property until their children wake-up homeless on the continent their fathers conquered… The issuing power should be taken from the banks and restored to the people, to whom it properly belongs.” – Thomas Jefferson

Great leadership begins with acting in the manner one wishes its followers to adopt. Let us not forget the eloquent words of great leaders like Jefferson, who was adamant about avoiding the evils a central bank would impose upon society. Or the witty quip from Ronald Reagan - ”To say  Congress is spending like drunken sailors is an insult to drunken sailors.”

We worked hard to create the greatest country on earth (or should I say our Founding Fathers and Servicemen), so why give it away by putting back in the hole with more debt? If we don’t de-leverage the American household, we will not succeed.

And that goes for our Government too.

Use the Cash-In Refinance Method to Generate Huge Returns

Cash In on Your Home by Paying Down Your Mortgage

The American home has gone from being used as an ATM prior to the bust to becoming quite a piggy bank – for those in the know.  What? There’s a way to make money on your home? You betcha!

Before I spill this on you, let’s set the record straight. I’ve never believed in the home as an investment nor that it be used as a funding source for consumption. I believe the goal should be to own your home – and if you make money on the value of your home along the way – well, that’s icing on the cake.

So what’s up with this story? Here’s the skinny: dumping money into your mortgage pays huge annual returns. This is known as a “cash-in refinance” – in start contrast to the pre-bust “cash-out refinance”.

Here’s two great examples:

Refinancing your Mortgage to Conforming Limits

Assume your home is worth $600,000 and you have a mortgage balance of $475,000 at 5.75% fixed. Investing $58,000 to pay down your mortgage to $417,000 and refinancing the balance brings you down to the “conforming limits” – which means lower interest rates. In this scenario, you would be able to obtain a new rate of 4.375%, saving you almost $8,000 in interest. This $8,000 represents a 13.8% rate of return on the $58,000 you invested to pay down your mortgage.

Refinancing to 80% or Less of the Value of your Home

If you have the cash to reduce your mortgage debt to 80% or less of the value of your home, you’ll qualify for much better rates and you won’t have to pay private mortgage insurance (PMI). Using the same reasoning above, your return is equal to the interest charges and PMI saved divided by the amount of cash invested to pay down your mortgage for the new refinance. I’ve completed calculations that show returns as high 18%!

These calculation don’t include the additional savings generated by following the refinance/mortgage acceleration principals I cover in Mind Your Own Mortgage - so there’s even more savings to be had.

Rates aren’t going to stay this low forever. If you have excess cash and your current mortgage rate is at least 5%, you can’t afford not to look into the “cash-in” refinance.

As the months go by and I witness the lengthening recession, things come more sharply into view.

This economy is going to take a decade or more recover into anything resembling the term “robust”. Why? Simple: the mortgage became the ultimate credit card for addicted consumers.

Case in point: My buddy just bought a house in a short sale for $800,000. The bank loans totaled $1,250,000, and the prior owners purchased the home for $300,000. Think about it – the prior owners took out almost a million dollars and poured it into the economy at the sake of their future! This might be an extreme example, but what about the average Joe that was able to tap $50,000 or more? It would take about $80,000 in real taxable earnings to generate that sort of cash.

Average Joes don’t get credit cards with $1,000,000 limits. Or $50,000 limits, for that matter. But homeowners did. Couple this with the fact that US Consumer Debt  rose from about 95% of household income to over 130% of household income from 2000 to 2008, and you had what I call the “illusionary economy”. Spendable “wealth” was tapped from two places:

• Home equity
• Consumer debt (credit cards and the like)

Neither of these are spurred by earnings and both of them encumber the consumer’s future for the sake of spending today.  This provided the primary fuel for the economy up until housing’s big fall. And it’s going to take a really long time for earnings to catch up in a manner that will provide for mass spending – if at all.

The illusionary economy consisted of the transfer of money from banks and other creditors to the consumers, who then poured the cash into products and services. And the banks and homeowners that are now underwater are left holding the bag (that is – if the homeowner doesn’t walk away and toss the keys to the bank).

I don’t think it takes a rocket scientist to figure what what’s going on here. If you are smart, you won’t ever crack your wallet by diving into debt again. Ever.

And for whatever pain that brings us, I say so be it. We’ll be better off for it.

Now if only “we the people” can find some folks to vote into office that think the same way……..