One of the most frequently asked questions I’m receiving these days is related to paying off debt and financing options. Gone are the days of a 2.5 – 3.5% mortgage. Or a 0% car loan. But the downside of those days were that cash made next to nothing. Even if invested in CDs or money market. It was difficult to get any “safe” return on your cash or investments.
Now that we’re in a high-interest-rate environment, obtaining financing has become more expensive, however, our cash and investments are better able to make a safer return. For more info on how to get a better interest rate only our cash, read my blog: Where to keep your cash now that interest rates are high(er).
Whether it be for a home purchase, improvement, car, or business venture, here are some options to consider if you’re looking for financing. Keep in mind, things are different than years past – period. I don’t have any magic solutions to bring your rate down to pre-pandemic times. But there have always been creative options to financing, and maybe some are more valuable to consider than they were in years past.
Traditional Bank Loans: Let’s start with the most common option. While interest rates may be higher than in a low-rate environment, banks still offer various loan options, such as personal loans, business loans, and mortgages. As has always been the case, if you have a strong credit history and stable income, you may be able to negotiate more favorable terms. If you don’t have a stable income due to self-employment or otherwise, adding a co-signer to the loan can be helpful. And remember, for a long-term loan like a mortgage, there is the possibility that you could refinance if rates come back down. Lastly, if you are sitting on excess cash and are simply accustomed to financing something like a car payment at 0% rates, this may be the time to pay cash instead. There is no sense in keeping excess cash to earn 4% taxable interest if your alternative is a 6%+ non-deductible loan. That math just doesn’t add up. The exception I could think of is that sometimes there is an upfront incentive to take a loan (let’s say $1,000 off your car), which you could do if you’re sure there is no penalty to pay off the loan almost immediately with excess cash. Then you get the best of both worlds. And yes, you could invest that cash instead to potentially earn more in the market, but that’s speculative given something like a car loan is considered short-term.
Credit Unions: Credit unions are not-for-profit financial institutions that can offer more competitive interest rates than traditional banks. If you’re a member of a credit union, you may find more favorable loan options.
Home Equity Loans or Lines of Credit: If you own a home, you might consider using its equity to secure a loan or line of credit. However, this option carries the risk of losing your home if you can’t make the payments. For more on HELOCs, read my blog How to review a Home Equity Line of Credit.
Negotiating with Current Lenders: If you have existing loans or debts, consider negotiating with your lenders for better terms. They may be willing to work with you, especially if you have a solid repayment history.
Crowdfunding: While I don’t love relying on something like GoFundMe or Kickstarter, in certain situations, it might actually make sense. Crowdfunding platforms can be an option to raise funds from a large number of individuals. However, success is not guaranteed. You’ll need an appealing project or product to attract investors or a very sympathetic situation.
Intra-Family Loans: With some simple estate planning, such as using a promissory note or adjusting beneficiary designations, it may make sense to ask family for funding. I often have clients that want to leave everything to their children, but the problem is – the children need it now. Using a simple promissory note can document the terms and amount of the loan to help keep things honest and even among siblings if the note isn’t paid by the time of inheritance. I love this solution when repayment isn’t imperative to the financial health of the lender. Would the lender like you to repay – sure. But if they don’t, it’s just something that can be rectified by skimming off the top of their inheritance, vs it being a matter of paying bills.
401(k) Loans: Many new clients have been great savers to their 401(k)s and dutiful mortgage payers, but leave themselves illiquid otherwise. With no other buckets to grab from when faced with a cash crunch, a 401(k) loan can make a lot of sense. Especially because you pay yourself the interest. However, it’s extremely important to understand the pros and cons of this decision and to also feel very stable in your job. To understand the rules, read my blog 401(k) Loans: Pros and Cons.
- Margin: If you have been great at saving to other buckets, like a brokerage account, you could consider using “margin.” Generally, custodians allow an investor to borrow against up to 50% of their taxable account balances without the need to liquidate investments. Some investors take these proceeds to actually buy more investments to magnify their buying power. But this can obviously work against you if the market declines. However, you can also simply take the cash as a loan. You may ask – if you have non-retirement investments – why not just sell them to create cash? That is also an option, but doing so may create significant taxable gains that you may want to avoid. I like this option for short-term situations, such as bridging funding between an existing house sale and new house purchase. But I’m generally weary of this as a solution for long-term funding due to market volatility and the uncertainty of being able to repay.
In a high-interest-rate environment, it’s essential to shop around, compare offers, and carefully evaluate the terms and costs associated with each financing option. Additionally, focusing on improving your credit score and financial standing can help you access better financing opportunities in the future. Sometimes the simplest adjustments to your credit cards or allowing a bit more time before requesting a loan can materially improve your score.
