Welcome to My World

I’m not generally fond of publicly talking about my finances. As I skim through the Google Reader some evenings and come across the various Personal Finance blogs on pfblogs.org I’m sometimes stunned with how open some people are about their money problems (or successes).

It always struck me as something that’s better kept private — if you reveal to the world that you’re wealthy (or that you’ve got a nest egg of any decent size), someone will do their damnedest to beg, borrow, or steal as much of it from you as they can. If you tell the whole world you’re broke, an entirely different class of scumbag will crawl out of the woodwork to try to take advantage of you when you’re weak.

I’m going to make a small exception today to my normal rule of “don’t talk about your financial situation” to describe something my new(ish) credit union set up for me this past week that’s really got me chuckling. I’m not chuckling at them, because they’re not losing money in this endeavor. I’m not chuckling at the other bank involved, because they’re undoubtedly making money on the deposit as well. I’m certainly not laughing at myself, since even I am not losing money in this. What makes me laugh, then? Unless I’m missing something subtle (or obvious — it’s happened before), this is one of those rare situations where everyone involved actually wins.

The Briefest of Backstories

This little financial adventure begins with a simple statement: my credit sucks ass. It is currently “injured” badly enough that I do not qualify (at least with this particular credit union) for even a lowly “secured Visa” credit card. Not even one that only provides 75% of the security deposit as credit (i.e. I deposit $400, they give me a card with a $300 limit — they won’t even go for that).

It’s been said that to put yourself on the road to financial independence, you need to put your money to work for you, instead of just “paying the bills” every month.

To that end, the credit union made one helpful offer that I actually took them up on after considering the numbers for a few minutes. Once I got back home and had the opportunity to really review those numbers, I started chuckling.

The Proposal

The only kind of “loan” product I can be approved for by this particular credit union is a simple guaranteed signature loan. Yes, it’s exactly what it sounds like. In my specific case, I paid the credit union $500. In return, the credit union loaned me $500. I will repay this loan in twelve installments of about $47; the interest rate on the loan is 4.5%.

On the surface, this is an absolutely stupid proposition — I’m paying the credit union $22.50 over the course of a year to quite literally lend me my own money. The agent at the credit union incorrectly phrased this as “you’re borrowing from yourself,” which is wrong because I’m not paying myself interest — I’m borrowing money from the credit union, and paying it interest, and I’ve put up my own cash to make the “investment” safe enough for the credit union to bite.

The only on-paper benefit of doing this, apart from spending $22.50 I don’t have to spend, is to take a step in re-establishing decent credit. In a year, I’ll have a loan on my credit history that shows “paid, in full” with a reliable, steady payment history. That’s the big “win” here — show that debt is paid on time to the satisfaction of a lender, and others will be more willing to lend money later. This means car leasing or financing, credit cards, even mortgages. Not that I have much interest in any of those, though I must begrudgingly accept the knowledge that my truck is rattling and grumbling more and more lately and will eventually become less expensive to replace than to fix.

Why Bother?

I don’t seem to “gain” anything else by doing this if you don’t think very long about it — my checking account saw a $500 debit, in the form of a transfer to my savings account. Immediately afterward, my checking account saw a $500 credit — the loan itself. The “security” money sits in my own savings account, earning interest like any other deposit there would. That interest rate is a paltry 1.35%, by the way. I can’t touch that security deposit — it does earn interest for me, but I can only poke at the interest, not the deposit. As I make payments on the loan, they automatically “release” that security money. The amount of principle reduced by each payment is automatically released — the only part of the security deposit I can’t touch is the amount of principal still due on the loan.

Even if I really was just pissing away $22.50 over the course of a year just to be able to show a healthy credit history over the past twelve months, that’s not really too expensive for what’s being done.

It turns out, though, that I’ll still be making money doing this.

Digging Deeper

The little secret nugget I haven’t mentioned in this writeup yet is this: I have another savings account at an online bank, that’s already linked to my credit union account. This savings account pays 3.25% (it was paying 5.05% until the Fed started fucking around with interest rates last month, dammit).

I’m about to walk you through the math involved here, but for those who like to skip to the end, here’s the punchline. By sweeping the money that was loaned to me, along with all the interest earned in the 1.35% savings account from the “locked up” security cash, and the money that gets unlocked as I repay the loan, I’ll actually make about five bucks in interest on this year-long transaction. A whopping 0.73% interest rate on $500, baby!

How? Well, think about it for a second: yeah, I have to pay this loan back at 4.5%. Look, though, at what it’s given me: $500 cash to play with (which would have gotten transfered to the online savings account anyway, by the way), that’s free to go into my online savings to earn 3.25%. But I *also have that $500 sitting in the credit union’s savings account, that I can’t touch until I start repaying the loan. That chunk makes 1.35% a year.

The “simplistic” math says my $500 will basically be making 4.65% interest over the next year, while the $500 loan I have “only” costs 4.5%, so there’s a “net” gain in it for me, of 0.15% interest. It doesn’t quite work out that way, though — it actually pays a little better. That’s because every month when I make a payment, about $41 or so gets freed up. I make a payment of $42.70, but I get $41 of it back. That goes into the online savings account (that pays better).

So here’s what happens:
* The online savings account compounds interest monthly, at an APY of 3.25%.
* The credit union savings account compounds interest quarterly, at an APY of 1.35%.
* The “loaned” $500 gets moved immediately into the online savings account.
* The “security deposit” of $500 lives in the credit union savings account.
* Every month, I’ll make a payment on the loan from other money I earn (so I’m not dipping into my savings at all to make these payments). When I make a loan payment, the principal portion of my payment is “freed up” and can be withdrawn from savings. This freed up chunk gets swept into the online savings account (where it can earn that higher interest rate). Every quarter, when interest is compounded, it gets swept along with the principal amount (every little bit helps).

I wrote a little Python script to crunch these numbers for me. I’m certain these numbers are ultimately going to be just a little bit off, since there’s a bit of “float” each month (of about 3 days) where the money is in “limbo” as it’s transfered between accounts. The script produced these results (“IN” is the internet account, “CU” is the credit union account; “Earn” is the total estimated interest earnings):

Month  1:   IN: $542.17     CU: $459.18     Earn: $1.36
Month  2:   IN: $584.46     CU: $418.36     Earn: $2.83
Month  3:   IN: $626.87     CU: $377.54     Earn: $4.42
Month  4:   IN: $670.66     CU: $336.72     Earn: $7.40
Month  5:   IN: $713.30     CU: $295.90     Earn: $9.22
Month  6:   IN: $756.05     CU: $255.08     Earn: $11.16
Month  7:   IN: $798.92     CU: $214.26     Earn: $13.21
Month  8:   IN: $842.63     CU: $173.43     Earn: $16.10
Month  9:   IN: $885.73     CU: $132.61     Earn: $18.39
Month 10:   IN: $928.95     CU: $91.79      Earn: $20.80
Month 11:   IN: $972.28     CU: $50.97      Earn: $23.32
Month 12:   IN: $1015.91    CU: $10.15      Earn: $26.13

The interest payment on the loan should total $22.50. Note the total earnings: $26.13. Heh. In a year’s time, I’ll have paid off the loan, earned about $3.50 (give or take) in interest, and added a year of reliable, good payment history on a legitimate loan to my credit history. I’m also “effectively” putting $41 (ish) away each month into savings, above and beyond anything else I can put away. That means the $500 I started with will still be in savings, plus a little bit of interest.

All that in exchange for just a little bit of electronic money juggling.

That’s neat.

A Caveat

Naturally, this whole scheme kicks me square in the balls if my savings account interest rate drops at all. The Fed hasn’t made any more rate cuts lately and I haven’t heard any direct grumblings that any more cuts are coming, but cuts are entirely feasible.

If there is a rate cut, I can always just pay the loan off early (either entirely, or just by doubling up payments or something) and avoid an actual loss, and start the whole thing over again (it doesn’t actually cost that much).

Heh. Should be interesting to see how it plays out, though, eh?