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Personal Finance
The psychology of debt
July 14, 1998: 12:46 p.m. ET

Why we do the things we do when it comes to unnecessary debt
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NEW YORK - More and more perfectly intelligent people are ending up with burdensome, unnecessary debt these days. Sometimes, the cause is as simple as the determination to live a long dreamed-of life, even if it has to be bought on time. Other times it's a failure to plan for the long term.
     Regardless of the reasons, the trend is on the rise.
     "A lot of people today have a perception of what economic class they are in and they spend at that level whether they can afford to or not," said Tahira K. Hira, the founder of the Family Financial Counseling Clinic at Iowa State University.
    
Rationalizing spending

     Many people rationalize the credit card bills with three simple words: "I deserve this."
     Those who build burdensome debts tend to focus on getting what they want now and put off finding a way to pay for it until later. Credit cards make that quite easy to do.
     "People run up credit cards to live a certain lifestyle and when the cards run out, so does the lifestyle," said Steve Rhode, president of Debt Counselors of America. "If you live a life on borrowed money, it's going to catch up with you."
     Some people end up paying for fancy dinners out, designer clothes and furniture, several months, or even years, later.
     "They say 'I don't care it if takes me 20 years to pay off; I really want this,'" said Christine Jones, a counselor at American Credit Counseling Service in Melbourne, Fla.. "And then three or four years down the road they wonder why they did this."
    
Forward thinking

     Others are wishful spenders. They convince themselves that they will have the money to pay off the purchase by the time the bill comes.
     "I see a lot of people who are wishers -- and people, unfortunately, keep wishing," said Howard Dvorkin, president and founder of Consolidated Credit Counseling Service in Melbourne, Fla. "You have to deal with what's happening now. Not what's coming."
     Another common trap is focusing on monthly payments rather than overall debt.
     "They say 'It's only $40 a month. I can pay that,'" Jones said. "They don't sit back and take a look at their overall indebtedness because that can be scary."
     ISU's Hira points out that a big part of the problem of debt is financial illiteracy. Many people don't know their net income. They don't have a budget. And they simply don't understand how quickly finance charges pile up on credit cards. For example, the debt on a card with an 18 percent annual percentage rate can double in just four years.
     "People do not understand the power of compounding in the opposite direction when you're charging and you're paying that high interest," Hira said.
     Experts suggest people establish a realistic budget for their income level and learn to live within it. Make due with one or two credit cards and pay them off regularly. Put a percentage of each paycheck into savings and keep it there. Depositing a whole paycheck into a checking account will only tempt people to spend.
     "People spend what's there," Dvorkin said. "If it's not there, they're not going to spend it." Back to top
     --By Bank Rate Monitor for CNNfn

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