Do You Have Too Much Debt?

Leverage, or the use of debt financing, can provide the borrower with significant benefits when used properly. But is it possible to get to the point where you may be taking on more debt than you can handle? Obviously, there are the extreme cases where individuals finance their lifestyle to the point they overextend themselves and cannot meet their debt obligations. These cases usually result in something bad, including bankruptcy. But what about the "everyday" borrower that has a mortgage, car loan, student loan, and possibly a credit card with an outstanding balance. How much debt is too much debt?

Most lenders like to see that your debt payments do not take up more than 36% of your monthly gross income. They determine this ratio percentage by calculating your personal debt-to-income ratio. In general, a lender will consider you an increased risk of default if you are close to or exceed this 36% threshold.

So how do you calculate your own debt-to-income ratio? Let's use the following hypothetical example to illustrate how easy it is to determine if you have too much debt:

1. Joe earns a gross annual salary of $82,000 per year or $6,833.33 per month.



2. Joe has the following personal debt liabilities and associated monthly payments:

-- Home Mortgage $ 1,500
-- Student Loan $ 225
-- Auto Loan $ 350
-- Credit Card(s) $ 50

Total $2,125

To calculate Joe's debt-to-income ratio, we divide the total monthly debt & liability obligation payments by his monthly gross income as noted below:

Total Monthly Debt Payments/Monthly Gross Income or $2,125/$6,833.33 = 31.1%

The 36% threshold noted above is typically used by lenders as a rule of thumb threshold level. Some may require a ratio less than 36% and others may be more liberal and allow for a threshold greater than 36%. Either way, calculating your personal debt-to-income ratio will provide you with the answer to the question: Do I have to much debt?

Quote of the Week - 2/25/2008

"Your time is limited, so don't waste it living someone else's life. Don't be trapped by dogma - which is living with the results of other people's thinking. Don't let the noise of other's opinions drown out your own inner voice. And most important, have the courage to follow your heart and intuition. They somehow already know what you truly want to become. Everything else is secondary."

-- Steve Jobs

Quote of the Week - 2/19/2008

Let us so live that when we come to die even the undertaker will be sorry.

-- Mark Twain

Deductible IRA Contributions

Its tax time once again and a topic that always seems to come up when people are preparing their returns is can they make a tax deductible contribution into an Individual Retirement Account (IRA). You would think that it would be easy to determine whether or not such a contribution could be made. However, we know all to well that the US Tax Code is hardly ever easy to understand and/or interpret. That being said, I have listed below a summary of the rules or guidelines you should follow to determine whether or not you can make a deductible IRA contribution:

• If neither spouse is an active participant in a retirement plan, $4,000 per IRA for 2007 and $5,000 per IRA for 2008, if earned income exceeds the IRA contribution amount.



• If either spouse is an active participant in a retirement plan in 2007, the AIG phase-out limit for deductible traditional IRA contributions is $52,000 to $62,000 for single filers and between $83,000 and $103,000 for joint filers.



• In 2008, the AIG phase-out for single filers is between $53,000 and $63,000 and for joint filers between $85,000 and $105,000.



• Contributions are phased out for a non-active participant spouse when the joint AGI is between $159,000 and $169,000.

Hopefully the summary above makes the rules a little more clear. However, it is best to consult a qualified tax advisor before making any tax related decisions.

NOTE: I have provided this information for educational purposes only. I am not a practicing tax advisor. This information should not be relied upon without further investigation or consultation with a qualified licensed tax professional.

Quote of the Week -- 2/10/2008

“All men dream; but not equally. Those who dream by night in the dusty recesses of their minds wake in the day to find that it was vanity; but the dreamers of the day are dangerous men, for they may act out their dreams with open eyes, to make it possible.”

-- T. E. Lawrence

Quote of the Week - 2/2/2008

"You can't build a reputation on what you are going to do."

-- Henry Ford