Recently I was involved in a discussion about the economy in which someone pointed out that it’s just so hard to keep up now because the cost of living has gone up so much in the last twenty years or so.

That made my ears twitch because I don’t think that statement is entirely correct, unless you’re looking mostly at home prices. In that sense, the cost of living has definitely gone up - but it isn’t really the cost of “living,” it’s the cost of “looking like you’re more affluent than you are because you think your neighbors are rich but they aren’t either.”

Because these types of things really get into my head and won’t leave me alone until I spend way too much time researching them …

I hopped over to the Census Bureau to look a few things up to verify my beliefs, with the first stop being the report on New Home Characteristics for 2007. On page 363 of the document there is a historical table of new home sizes dating back to 1973. Picking 1980 somewhat at random (and in the hopes that I’d be able to find other data on other products from about the same time to help me out in this little project), it appears that the average new home size across all of the US was 1,660 square feet. By 2007, the average new home size was 2,521 square feet - an increase of 861 square feet.

861 square feet is a LOT, but not all of that is livable space that needs to be furnished. I also looked up the “parking facilities” to see how much space was being taken up by garages. In 1980, there was no data available on how many homes had three car garages, but by 2007, 19% of new homes had three car garages.

So right there, we have homes that are substantially larger and therefore, we have more room for “stuff.” Since most of us are not minimalists by nature, we feel compelled to fill up those spaces with furniture, gadgets and toys. Gone are the days when you borrowed a tool from your neighbor - just go buy one of your own, you have the room!

Moving right along, let’s look at incomes. In a Census report regarding 1980 incomes (in a hilariously 1980s font, I might add), the median household income was $21,020. In 2007, it was $50,233. Keepl in mind that in these figures, we’re not talking about the average, we’re talking about the median - the number in the middle when you calculate everyone out there making an income. If there is an extreme disparity between low and high ranges, the average would be lower.

Next, food. This one’s a bit more of a challenge because a lot of foods we see in grocery stores now did not exist in 1980, but I did find this from the Economic Research Service of the USDA:

Specifically, from 1980-2006, inflation-adjusted prices of chocolate chip cookies, cola, ice cream, and potato chips fell by an average of 0.5-1.7 percent each year. During the same period, inflation adjusted prices of Red Delicious apples, bananas, Iceberg lettuce, and dry beans fell by an average of 0.8-1.6 percent each year. Inflation-adjusted prices of cabbage, carrots, celery, cucumbers, and  peppers fell by an average of 0.5-1.5 percent each year, over a slightly shorter period of time. These latter time series are somewhat shorter because BLS did not report prices for these foods for all years.

Rising price trends were observed for broccoli and field-grown tomatoes. These trends are not counter-examples, but reveal that the selection process was not exclusive enough to screen out all foods that have undergone quality change. Unlike in 1980, today’s consumer expenditures for broccoli are for partially or fully prepared products— washed and bagged florets and other cut products. Similarly, a technological improvement in the late 1980s changed the types of tomatoes grown and their sensory qualities.

In general, it doesn’t look like food prices have gone up much, but one activity involving food that I believe has increased dramatically is dining out. I qualified this statement with “I believe” because I couldn’t find any data to support my statement (if you can find some, I would love to include it) but I think most people in my age group would agree that in 1980, most meals, especially breakfast and dinner, were taken at home. Going out to eat, even to a fast food joint, was a big treat. I was 11 in 1980 and am really struggling to even recall the name of a restaurant in the small Illinois town we lived in. I remember plenty of chicken and rice casseroles at home, though.

Clothing prices have also not increased since the 1980’s, although just as with food, we all have more than we did back then. Just think about how big your closets were when you were a kid, or even now if you live in an older home. The first home I purchased in Denver was built in 1949 and each bedroom had a closet with about 5 feet of hanging rack space. That was it. And the rooms themselves were not large enough to hold a large dresser, so I had to scale down my wardrobe accordingly.

Some other “cost of living” adjustments that we’ve seen between 1980 and now are expenses that simply did not exist or were not widely utilized back then:

• Cable television (HBO wasn’t widely available until the 80’s, and MTV launched in August of the 1981 - quick, you know the first song played on MTV, right? Do they even play songs anymore, by the way?)
• Cell phones and fees, including data plans
• Video game consoles in the home.
• STARBUCKS - yeah, you know who you are!
• iPods (yes, there were Walkmans, but the model has changed dramatically)
• Blockbuster, Netflix and home theater systems
• Multiple personal computers and accompanying internet connections (we have three computers)
• Multiple televisions (we have two - but we never watch one of them)
• Kitchen gadgets (microwave ovens were widely available in the mid 70’s but not a standard household item)
• TOYS - the sheer volume of kids’ toys.
• Gym memberships and equipment, along with diet supplements.

There are probably hundreds of other differences between the world of 1980 and now, but I’m not going for a dissertation here. The point is that when you think of your “cost of living,” it’s important to keep in mind that many of the items you spend money on now are not necessities of life or even of comfort. Much of your “cost of living” is within your control, with a little creativity, a little more community sharing, and an understanding that keeping up with the Joneses is ultimately an immature need for approval that doesn’t serve you or those around you well.

Harsh? Maybe … but so is the prospect of living on social security and food stamps in your retirement because you couldn’t bear the thought of looking less affluent than your neighbors.

This past couple of weeks, buzzing at a quiet hum under the holiday chaos, there has been an incredible story about a Ponzi scheme on a huge scale - grander than even Charles Ponzi could have imagined in his wildest dreams.

I’m talking, of course, about Bernie Madoff, former chairman of NASDAQ, master manipulator and ultimately, dastardly con artist. I won’t recap his activities, you can read those at the link or in the news. Suffice it to say that he lied to a lot of people and lost billions of dollars of investor money. He played on his reputation, his networks, and the lure of exclusivity (you had to be graced with an invitation in order to be involved with Madoff - brilliant, really) to get investors. There were plenty of red flags for years, most notably the constant returns he was able to pay out regardless of market conditions, but he managed to keep everything afloat for long enough that investors got complacent.

It’s those investors that I want to talk about.

Last week, a woman named Alexandra Penney recounted her personal experience with Madoff in an article called “The Bag Lady Papers.” This artist, bestselling author and former editor of Self lost her life savings with Madoff and is understandably upset about it. I would be too. She talks about how she learned early in life about saving her pennies, how she left a failed marriage and worked three jobs to support herself and her son, and about how she ended up writing a book that upset her family so much that they didn’t speak to her for almost a decade.

She thought, like many others, that she was extremely fortunate to be able to invest with Madoff. She thought, rightly, that a return of 8-10% annually was not overly risky and was pleased with her portfolio performance. She thought she should be able to trust her service provider, and she got screwed.

Her article was interesting, but much more compelling were the comments, both at the site and from people I know. Although many people empathized and sympathized, there was no shortage of nasty sentiment about how it was so very not tragic that she was going to have to take the subway for the first time in thirty years, about how she might have to sell her jewelry, and generally along the lines of “welcome to the real world, toots.”

I have one friend who thought that her claims to be self-made are not quite true given her upbringing in a well-to-do community, which would offer her advantages and connections that many others from less affluent communities don’t have.

One commenter on the site, noting that Ms. Penney has a maid who does her ironing, said,

So, you’re going to have to learn how to iron and stand there until your back hurts, like most people. That’s life. Get off your ass, and get to work.

Several people seemed to think she was stupid to invest everything with one firm, and many appeared to take some sort of perverse glee that this woman lost her savings.

What’s wrong with this picture?

I don’t know Ms. Penney. Perhaps she is a particularly nasty and vicious woman, likely to kick cats, eat puppies and laugh when she sees baby birds fall out of their nests. But you know what? Even if that’s the case, the implication that somehow she deserves to lose her savings either because she was somehow too rich or too stupid is completely inappropriate.

First of all, when someone is robbed, it isn’t all about the money. There shouldn’t be one set of sympathy for poor people who get robbed and another for wealthy people. Regardless of who is victimized, being robbed is a soul wrenching feeling. Someone got into your stuff and took it from you, and the security loss goes well beyond the loss of the actual items. If it can happen once, it can happen again, which can leave a lasting emotional and mental impact.

Second, even though she did grow up in an affluent community, she still hunkered down and did what she had to do to pay the bills when times were tough. Isn’t that what Americans are supposed to do? Should we revel in the downfall of someone who worked three jobs and slept on a mattress on the floor when she had to? She worked hard and was successful and people are happy because she has to let go of a woman who supports her family in Colombia by cleaning her home and ironing her shirts? How very ugly.

And finally, why in the world should she have known better than to invest her money with one firm? I think as a nation, we are well aware that personal finance education is sorely lacking, so why are we still blaming the victim? I’m astounded whenever I hear or read people insulting the intelligence of those who are in trouble financially, whether it’s the couple searching for the American dream with the purchase of a new home that their mortgage broker assured them that they could afford or Ms. Penney, a writer and artist, who thought she could count on the references of her community network.

We can’t all know everything about every field - we would simply go insane. Imagine your life if you felt compelled to get a medical degree just to be able to verify your doctor’s diagnosis of swimmer’s ear, a real estate license, appraisal license, mortgage broker license and home inspection license when you wanted to buy a home,  spend a couple of years learning auto repair to make sure you concur with your mechanic regarding the cause of that whrrr-whrr-bing-ka-pop sound, or get an associate’s degree in order to make sure you’re not getting taken when you have someone come in and set up your home computer network.

Although we all have some responsibility for knowing how to live within our means and should try to stay current with economic events, perhaps we could cut people a little slack when it comes to being able to smell a rat in an unfamiliar profession. Personally, I feel sorry for Ms. Penney and wish her well.

Fortunately, it sounds like she’s not the type of woman to wither away in the face of hardship, and isn’t that exactly the type of perseverance we Americans tend to admire?

If you’ve been visiting the Fools and Sages community for a while, you already know that one of my favorite websites is The Grocery Game. I’ve written about it here, here, here and most recently, here. I hope you have been able to carve out some time and check it out.

If you haven’t, I humbly implore you to go to the site right now (well, after you finish reading this post), see if there is a program in your area and at least sign up for the $1 five week trial. I’m begging, because I saw the video version of this story tonight on the news:

With just a few weeks until Christmas, the Salvation Army says they’re worried about the lack of food donations, which are down about 30 percent in just the last year. Last month, the charity was forced to turn away 300 families who showed up to their food pantry looking for help.

This is in the Denver area, but I’m sure the same story is playing out all across the country.

You can make a difference, and The Grocery Game can help.

For example, quite often you’ll find that turkeys and hams are on sale, but there are limits of one per shopper’s club member. If you are planning on having turkey for your holiday dinner but there are hams at a great price, see if a local soup kitchen could use a fresh donation and pick one up … or pick up a super cheap turkey if you’re planning on having ham.

Look through the list for inexpensive non-perishable goods that you can pick up with coupons while they’re on “super sale” and take them to your local food bank. Even if you can’t get some of the great sales the first couple of weeks because you haven’t built up your stock of coupons, these organizations are still going to be in great need after the holidays when people pressed for cash are going to have to decide between paying for heat or paying for food. And if there are toiletries on sale, pick those up too. Most food banks welcome non-food items for their patrons.

Some examples of great prices from this past week’s sales from King Soopers/City Market/Kroger:

• Cook’s Spiral Sliced Ham - regularly $3.79 per pound, on sale for $1.49 per pound. … 61% savings.
• Olay Quench Therapy Hand and Body Lotion - regularly $7.69, on sale for $3.84, plus a coupon for $2. …. 76% savings.
• Arm & Hammer Antiperspirant and Deoderant - regularly $3.99, on sale for $1. … 71% savings.
• Kroger Anti-Plaque Dental Rinse - regularly $3.49, on sale for $1. … 72% savings.
• Goody Stay-Put Headbands - regularly $5.99, on sale for 50% off.
• Betty Crocker Brownie Mix - regularly $2.99, on sale for $1. … 67% off.
• Manischwitz Potato Pancake Mix - regularly $3.99, on sale for $1. … 75% off.
• American Beauty Pasta - regularly $2.49, on sale for $1. … 60% off.
• Mrs. Cubbison’s Stuffing Mix - regularly $2.39, on sale for $2, plus a coupon for $.55 (doubled up to $1). … 58% off.

That’s just a small sampling of this week’s specials, most of which are 50% off or more. And, as you’ll notice, most of the sales don’t even require a coupon, so you can make a difference THIS WEEK.

Just imagine, though .. if you got one each of the items above, assuming a five pound ham, you would spend $18.29 for merchandise regularly priced at $51.97, including some items that could be real food treats for a family, plus some that could help with hygiene, and even a couple of items that could be a small gift or stocking stuffer for a family that has fallen on hard times.

If you use the Grocery game for your own shopping, that $18.29 would probably VERY easily be covered by the savings you can glean from your own needs.

This weekend before you do your grocery shopping, I urge you to sign up for The Grocery Game and print out some items that you can pick up for those in need.

Please pass this post to friends as well, and let them know that if they use your e-mail address as a referral, you can earn free months with The Grocery Game. They can too, if they recommend this simple and inexpensive program to friends.

I am grateful to you in advance, and so are those who are in need of these wonderful charitable organizations this season.

When the next election cycle comes around, I would like to suggest that everyone just disregard all statements made by their legislator that implies any surprise or disapproval of the mortgage industry’s shenanigans, because seriously - it’s all a farce.

I’ve read quite a bit of political and economic news and over the last few months, I’ve found that any kind of article involving indignant legislators is all of a sudden very easy to skim. Being able to substitute “blah blah blah yada yada yada” for entire paragraphs can seriously condense an article, you see.

Take, for example, this article in the Voice of America news about mortgage lenders defending themselves in front of Congress:

“Their own risk managers raised warning after warning about the dangers of investing heavily in the sub prime and alternative mortgage market,” said Henry Waxman. “But these warnings were ignored”

Blah blah blah.

“Your whole excuse for going to risky and unreasonable loans that are defaulting at an incredibly high rate is that everyone is doing it,” said Daryl Issa. “If we don’t do it, we’ll be left out.”

Yada yada yada.

And this whole bit with Kucinich:

KUCINICH: “Do you take responsibility for the risks that your company took when you ignored the advice of your credit risk officer and when you cut the budget, do you take that responsibility?”

MUDD: “I followed the process to listen to all of my staff, not just the chief risk officer.”

KUCINICH: “But what did you do though. What did you do. Did you cut the budget of your credit risk officer?”

MUDD: “Just liked all budgets, as long as I have been involved in business we negotiated the right number for the people that he could hire.”

KUCINICH: “Is the answer yes or no, did you cut your credit risk officer’s budget?”

Whatever, Yoda.

I’m not going to defend mortgage lenders but frankly, if I was in charge of Freddie or Fannie, I’d be pretty mad at the way these folks were talking to me. It’s not that Fannie and Freddie were unaware of the dangers of the sub-prime market or the inevitable collapse that would occur, it’s that they were stuck between a political rock and a hard place.

Taking Fannie Mae into account particularly, remember that although they are a public company, they were created by Congress. Their whole existence is about buying and securitizing mortgages from other lenders so that money is constantly available to lend to folks wanting to buy a home. THAT IS WHAT THEY DO. Freddie Mac was created, also by the government, to compete with Fannie Mae in 1970  … which is really odd when you think about it … but their job is the same.

The “blame Clinton for this entire mess” crowd likes to point to how he encouraged Fannie and Freddie to reach out to lower and middle income families, and that’s a fair accusation. But in Fannie and Freddie’s defense, when the President of the United States tells a government created organization to do something, I would imagine it is difficult to say no - and frankly, the sentiment was good. Owning a home is the American Dream, after all.

Still, even in 1999, there was plenty of warning about the possible pitfalls. From the New York Times on September 30, 1999:

In moving, even tentatively, into this new area of lending, Fannie Mae is taking on significantly more risk, which may not pose any difficulties during flush economic times. But the government-subsidized corporation may run into trouble in an economic downturn, prompting a government rescue similar to that of the savings and loan industry in the 1980’s.

”From the perspective of many people, including me, this is another thrift industry growing up around us,” said Peter Wallison a resident fellow at the American Enterprise Institute. ”If they fail, the government will have to step up and bail them out the way it stepped up and bailed out the thrift industry.”

Imagine that.

And remember that at the same time this was happening, the “blame the Republicans for this entire mess” crowd can point to the Gramm-Leach-Blilely  (I like to point to it a lot, actually), which overturned Glass Steagall and allowed conservative banks to hook up with investment companies. That gave investment companies access to more conservative bank money.

Can you imagine the conversations in the halls of Washington DC back in the day? “If you guys want to loan to everyone and their uncle, you’re going to have to convince the banks to lower their lending standards. They can’t do that because they can’t take the risk, but if you pass this bill and let investment companies get in on the action, those geniuses should be able to invest well enough to make up for the possible increase in default risk.”

Without doing a bunch of research to verify, I am 100% confident that a statement very close to that was made at some point, because it actually makes sense.

But the one thing that politicians in the late 90’s would not have wanted to say in public if they wanted to get re-elected is, “no, we can’t support reaching out to lower and middle income people to increase home ownership” because what that really meant was “no, we can’t support reaching out more to minorities.”  Again from the New York Times in 1999:

… at least one study indicates that 18 percent of the loans in the subprime market went to black borrowers, compared to 5 per cent of loans in the conventional loan market.

So. All of that is one big long coffee driven rant that comes back to this: Take all of the Congressional finger waving and tongue wagging for what it is - a photo op. The housing and mortgage meltdown wasn’t a surprise. Maybe Fannie Mae and Freddie Mac could have fought harder to warn the government and the public about the inevitable failure of what was going on, but their voices would probably have been drowned out by the politicians who needed a strong looking economy in order to get re-elected.

The same politicians who need to blame someone now.

Two recent stories regarding consumer debt caught my eye because I read them practically right after each other …

From the Associated Press on December 2, 2008:

… the average debt per borrower for the second quarter stood at $1,742, up 7.7 percent from $1,617 in the third quarter of 2007. Debt per borrower increased 1.4 percent from the second quarter, when it stood at $1,717.

And then from MarketWatch on December 5, 2008:

Total seasonally adjusted consumer debt decreased by $3.54 billion, or a 1.6% annual rate, in October to $2.58 trillion, the Federal Reserve reported Friday. Consumer credit rose at a 3.1 % pace in September after dropping a record 3.0% in August. Non-revolving credit - such as auto loans, personal loans and student loans - had the biggest drop in October, falling by $3.3 billion, or 2.5%, to $1.60 trillion. Credit-card debt fell by a slim $181 million, or 0.2%, in October to $976 million.

So, total debt is down, but for every person who has credit card debt, the average amount has gone up. The timing is a little off here, since the first story is talking about the second quarter (July through September) and the second is talking about October, but I think the general message is probably still valid.

That isn’t particularly good news for the economy, is it? Spending on goods and services like cars and education is dropping, but an increase in the average amount of revolving debt means that people are using credit cards to pay bills and that’s not sustainable over the long term.

What’s going to end this cycle, I wonder - and how bad is it, really? Although the delinquency rate on credit cards is rising, it’s still very low - just over 1%. Overwhelmingly, people are still paying their bills. Certainly spending is tightening up, which impacts corporate revenues and of course jobs, but the only solution to that can’t be for everyone to spend more and put themselves more in debt.

I don’t want to blame the rich, but a part of me wonders why every crazily compensated CEO out there hasn’t taken a voluntary paycut to help save some jobs.  According to the AFL-CIO, average total compensation of S&P 500 companies in 2007 was a little over $14 million. That figure includes perks like stock options and a cut in those doesn’t really translate to a saved job here or there, but that’s not the point. Also according to the AFL-CIO, the average CEO to worker pay ratio (how much the CEO makes compared to the average wages of all other employees) was about 42 in 1980, meaning that the CEO made forty two times as much as the average pay of everyone else. In 2005, that ratio had jumped to 525, and then dropped to 364 in 2006.

Again, considering that these ratios depend on a rather arbitrary valuation of stock options, I’m not sure how accurate they are, but the change is pretty stunning. Sure, these guys are required to turn a profit in huge companies, but are they really worth that much more now than they were in the 80’s? Comparing a CEO to a worker making $50,000 a year, is a CEO making $18,200,000 in 2006 really going to be able to do that much better than a CEO making $2,100,000 in 1980? I think that would be difficult to justify - do you as well?

Sorry for the tangent, this was going to be a very short post about debt but I got to pondering …

So, follow along with me for a moment.

Let’s say Bert and Ernie, long time roommates and friends, decided in 2005 to buy a brownstone on Sesame Street instead of paying rent for a basement apartment. They go to their friendly not-in-their-neighborhood mortgage broker to get qualified for a loan. Bert and Earnie have to do apply for the loan with stated income since neither of them has a regular day job, but this isn’t a problem in 2005.

Since the real estate market in New York City, and especially the always popular Sesame Street area, is outrageous. they also ask for low teaser rate ARM with an interest only feature. Their intention is to still live in the basement but to rent out the rest of the place in order to pay the mortgage, which will be a great cash cow after a few renovation expenses out of the way. Once they get going, they’ll refinance to a fixed rate, principal and interest loan.

The mortgage broker’s firm takes their mortgage, along with all of the other ones they’ve originated that month, and sells them to an investment firm that bundles them up into a different packages, and sells them to investors. Some packages are comprised of loans given to people with perfect credit and who makes lots of money and are therefore considered at very low risk to default. Others include mortgages like Bert & Ernie’s stated income interest only variable rate loans. The low risk ones pay slightly lower rates to investors, and the high risk ones pay higher rates. Both, however, somehow end up with excellent credit ratings from debt rating firms.

Fast forward three years.

Bert and Ernie have done their renovations and have been looking for tenants, but the economy has hit the skids. Monsters are leaving Sesame Street left and right, or moving back in with their parents. The only person with a stable job is Oscar (there will always be trash) and he’s content in his can. Bert and Ernie can’t find anyone to move in, and the rate on their mortgage just flipped up 2% and will go up another 2% next year.

Thank goodness for the bailout!

By choosing from one of several programs, Bert and Ernie were able to modify the terms of their loan in order to bring their payments to a reasonable level and avoid foreclosure.

The story doesn’t end there, though. Now that their loan payments have been modified downward, the cash flow that comes from that loan ultimately to the investor that purchased the package it’s in has also declined. To add insult to injury, since the returns on the investment have gone down, the current investor can’t even sell to another party without taking a hit on the principal amount either.

Multiply that by the 400,000 real loans that may be modified by Bank of America and you end up with one very ticked off investor who is suing the bank. From Business Week:

The battle over the mass modifications of troubled mortgages has begun in earnest. On Dec. 1, William Frey, a private investor in mortgage-backed securities, filed a lawsuit in New York State Supreme Court alleging that the proposed modification of some 400,000 home loans originally underwritten by the defunct lender Countrywide Financial is illegal.

The lawsuit , which seeks class-action status, was filed against Bank of America (BAC), which bought Countrywide in late 2007. It argues that most of the Countrywide loans are not Countrywide’s or Bank of America’s to modify, but rather are owned by trusts that bought them through securitization—the process of financing home loans through the public markets by parceling them out to investors.

Now, Mr. Frey isn’t just any old investor. He owns a broker dealer that specializes in mortgage backed securities and would therefore be particularly impacted by widespread loan modifications. His personal net worth would likely be affected as well as that of any clients who had invested with his company.

Mr. Frey says that he has not put together any securities using subprime mortgages in years because he believed them to be too risky, which was a good move, but the current economic downturn and bailout efforts are impacting more than just the subprime market.

His feeling is that the loan servicers are going to  modify loans instead of foreclosing and that these modifications are a breach of the contract that mortgage backed securities companies essentially set up with investors. In other words, when investors bought these highly rated securities, they were counting on a “business as usual” economy where people who couldn’t pay their bills would be foreclosed and even that wouldn’t happen very often, but they could generally count on the return on their investment staying consistent.

He also believes that changing the game half way through when it comes to mortgaged backed securities will hurt the secondary market for these products and therefore reduce the lending pool for Americans to purchase homes.

He’s not wrong and as the manager of a firm that makes its living on these products, it’s almost required that he step and try to defend the interests of his investors, but he’s no saint either. Essentially, he’s asking for a bailout for his investors - at taxpayer expense, of course:

Frey says a more reasonable, albeit unpopular, solution would be for the government—that is, taxpayers—to ante up another $500 billion to buy all of the troubled loans from mortgage-backed securities pools in order to keep the public market for financing mortgages viable.

Buy out ALL of the troubled loans in order to shift the risk from private investors to taxpayers. Nice thought, Mr. Frey. And yet, to be fair, I kind of see his point. It’s enough to give a girl a headache.

But for the record? I still think my plan is better.

Is the economy stressing you out? Are you worried about whether or not you’re job is safe, if your home value is declining so fast that you’ll be underwater on your mortgage, if your company is going to cut back on medical benefits? Are you concerned about where you will cut corners if necessary, and is the nightly news a constant stream of scary economic data?

If you answered yes to any or all of the above and have kids at home, consider how that might be impacting them.

Kids may be ignorant of the details of your financial situation or about personal finance basics in general, but they’re not stupid. They know when their parents are on edge about something even at a very young age. Empathy is instinctual, as anyone who has made smile at a baby in order to elicit a smile in response knows.

I can’t tell you how to convey your situation to your child - you know your kid’s personality better than I do - but I can give some general suggestions, and being the buttinsky that I am, here they are …

Keep your discussions age appropriate. An elementary school aged child and a junior in high school are worlds apart in regards to how much they need to know. A younger child may only need to know that sometimes parents have less money than others and this is one of those times. An older child, especially one who may be looking forward to a car or college in the next year or two, can handle a few more facts about the situation and deserves to know if there are plan changes on the horizon.

Be prudently positive. Fear engenders fear, and much of your fear and pessimism may be unnecessary. Stick to the facts of your situation, keeping in mind that “the economy sucks” is not really a helpful fact.

Enlist their help. Children want to help, they really do. If you are open with your kids, you will probably find that they are willing to join your team to do whatever they can to make things better. If your conversation is about how your income has gone down but your bills haven’t, ask your children if they have any ideas about how to save money. Depending on their age, you may have to guide the conversation a bit. For example, for younger children, you might need to mentally go through each bill and ask them for suggestions - “Electricity costs money every  month, and everything that is plugged into an outlet uses electricity, sometimes even when it’s turned off. What could we do to save money on those?” Don’t forget about the vampires!

Stay as positive as possible. The most important lesson you can impart to children in most times of trouble is that much of their reality is in their control. Teaching them that your family has been victimized is not helpful.

Come together. Going to movies, staring face forward, and munching on your popcorn in silence is less of a “quality time” family event than a board game, and much more expensive. Going out to eat in a loud crowded restaurant where everyone has to mind their manners** is less a family event than everyone hanging out in the kitchen making dinner together. Popping the kids in the gym’s on-site daycare while you go do an hour on the treadmill is less a family event than taking a free walk.

Be grateful - and give. Although it can be difficult to think about giving things away when times are tight, do it anyway. If you have clothes that children have outgrown, donate them to a charity or turn to your local Freecycle group. The lessons here are plenty - gratitude that you have enough to give away, sharing with others who are not as fortunate as you are, learning how to acquire items for yourself that are less expensive than buying new, and community coming together.

Turn off the TV. Watching economic news is pointless, really and truly. It will just depress you. Other programming may be more entertaining, but when it comes interrupted with commercials trying to convince you to spend and take on more debt, what’s the point? It can be confusing for kids as well. They see toys they want to get and those families on TV look so happy and obviously able to afford all of the goodies. By inference, if your family can’t afford to buy them, something must be wrong with you. Try the library instead for your video watching needs.

Although every day should be an chance to teach your children about personal finance, times of economic hardship are, let’s say, a more poignant opportunity. Handled correctly, tough times can be a blessing as families turn to each other for strength, support and love - all of which are free.

**This is not meant to imply that children should not mind their manners at the dinner table at home, it’s just not quite the same!!

As we move through this newly admitted recession that everyone already knew about, news about mortgage bailouts and auto bailouts and who-knows-who’s-next bailouts comes fast and furious.

For example, credit card companies have asked to be allowed to write down principal, a request which was denied by regulators in November because it also included a request to allow borrowers to defer paying income tax and lenders to defer including those losses in their financials. The government has decided that it is imprudent and misleading for credit card companies to not post the losses they would experience immediately, and that makes sense.

In the mortgage industry, however, the standards are a little different. If a homeowner loses a home to foreclosure or has a modification to a loan that includes reducing the principal owed, income taxes on the forgiven amount are waived. This law was originally enacted to cover debt forgiven in 2007, 2008 and 2009 but has since been extended to 2013. From the IRS website:

Homeowners whose mortgage debt was partly or entirely forgiven during 2007 may be able to claim special tax relief by filling out newly-revised Form 982 and attaching it to their 2007 federal income tax return, according to the Internal Revenue Service.

Normally, debt forgiveness results in taxable income. But under the Mortgage Forgiveness Debt Relief Act of 2007, enacted Dec. 20, taxpayers may exclude debt forgiven on their principal residence if the balance of their loan was less than $2 million. The limit is $1 million for a married person filing a separate return. Details are on Form 982 and its instructions, available now on this Web site.

[...]

The debt must have been used to buy, build or substantially improve the taxpayer’s principal residence and must have been secured by that residence. Debt used to refinance qualifying debt is also eligible for the exclusion, but only up to the amount of the old mortgage principal, just before the refinancing.

Debt forgiven on second homes, rental property, business property, credit cards or car loans does not qualify for the new tax-relief provision. In some cases, however, other kinds of tax relief, based on insolvency, for example, may be available. See Form 982 for details.

Combined with the tax relief, mortgage holders should be aware that there are several options available if house payments are a burden. FHASecure and HOPE for Homeowners are available now, and the newly announced Streamlined Modification Program will go into effect December 15th.

Under the Streamlined Modification Program and similar in some ways to FHA Secure and HOPE for Homeowners, borrowers with loans from certain providers (some of which can be found within the same list as lenders who are working with HOPE for Homemakers, but not all - contact your lender to see if they are participating) may be able to renegotiate the terms of their mortgage to avoid foreclosure or bankruptcy.

In order to qualify, homeowners must be delinquent 90 days already, owe at least 90% of the current value of your home, live in the home as a primary residence, not have filed for bankruptcy, and be paying more than 38% of their gross monthly income towards their mortgage.

The adjustments to mortgages may not necessarily include debt forgiveness, though. Participating lenders are going to resist debt forgiveness as a first alternative, opting instead to either lower interest rates or extend the terms of a loan. In other words, a thirty year mortgage may turn into a forty year mortgage, which means on a $150,000 mortgage at 5%, the interest actually paid over the life of the loan would go from about $140,000 to nearly $200,000, assuming the borrower actually stayed in the house that long.

Even with that rather hefty “penalty,” the new program may be a lifesaver to many families who just need to bridge this economic downturn - but only if used prudently and honestly. Interest-only loans and variable rate loans were also ways for families with faltering cash flow for one reason or another to be able to bridge a tough gap, but over the course of the last several years, those same loans were also a much too easy way for borrowers to buy more house than they could afford or to use the money they “saved” to spend lavishly elsewhere. This new program could be gamed to do the same thing, and it could be quite expensive for the economy as a whole. No, check that - it WILL be quite expensive.

How could someone work the system to take advantage of this program? Simply, really. All a homeowner needs to do is not pay the mortgage for three months and show that their gross income is not enough to support their loan payment. How could the income number be accomplished?

• Max out a home equity loan, if it hasn’t been slashed already, by drawing on the entire amount. It doesn’t need to be spent, it can just sit in a bank account. Remember, it’s INCOME, not assets that count in this equation.
• Go from a two income family to a one income family, especially if one spouse is in a field where jobs are easy to replace such as healthcare or education. The goal is to reduce income just long enough to qualify for the program.
• For self-employed people with unverifiable present income, be pessimistic! The same people who may have fudged on the high side to qualify for a loan in the first place can now feel comfortable with the “glass half empty” approach.

Of course, anyone who tries to get a loan modification through this program has to certify that they’re not being shady, but really, it’s getting to the point where it’s difficult to define “shady” when you see the auto execs rolling into DC to beg for money in their corporate jets, AIG doubling salaries and paying out hefty cash awards, and credit card companies doubling rates virtually risk free to themselves. The tradeoff for people with otherwise stellar credit reports between taking a hit for missing a few payments in order to reduce a monthly payment (or ideally, the entire principal amount of the loan) versus racking up more credit card debt or raiding a 401k plan may be worth the effort.

For a quick overview of the program, go here - Consumer Affairs Streamlined Modification Program Fact Sheet.

Seeing an increase in bankruptcy filings probably isn’t much of a surprise in this economy, but the increase is all the more compelling because of this (from USA Today):

The sagging economy sparked 106,266 consumer bankruptcy filings in October, the first time monthly filings topped 100,000 since the bankruptcy law changed in 2005, the American Bankruptcy Institute said Tuesday.

During the first year after the new law took effect, personal bankruptcy filings plummeted dramatically, and since then, have risen gradually. In October, though, filings jumped 40% over the same month in 2007.

The change in the bankruptcy rules, which was mostly a nice little gift to imprudent lenders everywhere, substantially decreased Chapter 7 filings in particular by making it much more difficult to qualify. Chapter 7 bankruptcy is a liquidation bankruptcy, which means that certain debts can be erased entirely, while Chapter 13 bankruptcy is a reorganization bankruptcy, which means that debts will still be repaid under the watchful eye of the court over a certain amount of time. Whatever is still left at the end of the payoff time may be erased.

Those who earn an income above their state’s median will generally not qualify for a Chapter 7 bankruptcy under the 2005 change in the law, which meant that people either needed to go through the much more time consuming and less “immediate gratification” process of Chapter 13 … or (more likely) just not file at all and try to get by some other way, maybe through family loans or debt settlement programs or by playing a little shell game with balance transfers and home equity loans.

The fact that bankruptcy filings are increasing, and according to the article, increasing in the Chapter 7 category specifically, means that 1) the debt switching game is over, as people are losing their home equity lines due to falling home prices and tightening offers at credit card companies, and 2) people are losing their jobs, putting them below the median price that qualifies them for liquidation instead of reorganization.

Although it would be devastating to the credit card industry, I think the bankruptcy laws need another review when President-Elect Obama gets into office. The law changes in 2005 were clearly a desperate effort to save an industry and an economy that had lost its mind, much to the detriment of the consumer who was being lied to the whole time about the “strength” of the economy, and reversing some of provisions of the law would be a good first step towards that Main Street bailout that most of us seem to find quite elusive.

If you’re not planning on moving and aren’t having trouble paying your mortgage, it really doesn’t matter what the market value of your home is … but if you are thinking about putting it up on the market or want to refinance, having a realistic estimate of your home value is imperative.

This rather flippant story in Mortgage News Daily says that we’re in denial …

Zillow’s Quarter 3 Homeowner Confidence Survey was conducted October 7-9, during the week that the stock market really tanked (as compared to other recent weeks when it merely tanked.)  This makes the result of the survey even more ironic and indicates that American’s are deeply in denial over the state of the economy.

Zillow found that half of U.S. homeowners think that their homes are essentially worth the same amount today as they were one year ago.   Most housing studies would indicate that this perception is wildly out of touch with reality and Zillow itself claims that 74 percent of U.S. homes lost value over the last 12 months if one uses figures from its own “Zestimates.”

Even stranger, 32 percent of homeowners actually think the value of their homes has increased.  17 percent feel that their home’s value has not changed.

The article does say that people in the west, where home prices have gone the way of “the bigger they are, the harder they fall,” are more in touch with their pain than folks in other parts of the country.

If you would like to get an idea of your home’s worth, you can check out your address at Zillow. I have a friend who used to work there who says that the estimates are more accurate in more heavily populated areas - I don’t know if that’s true anymore or not but maybe it’s something that can help you rationalize your way out of thinking that your home value isn’t really THAT low.