Not since Hitler’s armies stormed into Paris have affairs in Europe received greater attention—or caused greater concern—than today’s debt crisis. But just how subject is the U.S. economy to contagion from across the Atlantic? And what actions—if any—might a wise investor take to protect against a potential financial blitzkrieg?

The first order of business is to put the dangers in perspective. Yes, the financial trouble is very real, but that trouble is mainly limited to five of the 27 countries in the European Union. These five—Portugal, Italy, Ireland, Greece, and Spain (often referred to as PIIGS)—are facing enormous financial problems, but the major European economies—Germany, France, and the U.K.—are not in such horrible shape. “Many EU nations are not only financially solvent, but are arguably in better financial health than the U.S.,” says F. John Mathis, professor of global economics and finance at the Thunderbird School of Global Management in Glendale, Arizona.

In fact, we do much more trade with Canada, Mexico, and China than we do with countries in the EU. And within the EU, the five most troubled nations (PIIGS) are minor trading partners with the United States. [See chart below.]

While a handful of EU nations face severe financial turmoil, those troubles alone cannot sink the U.S. economy, says Mathis. “The largest danger the debt crisis in Europe poses to the U.S. is psychological,” he asserts. The recent volatility in the U.S. stock market coupled with the collapse of housing have many of us fearful about investing in general. In this context, the potential of certain EU governments drowning in debt is creating more worry, not all of it justified, says Mathis.

How bad will the EU crisis get? Bugra Bakan, CEO of Shield Wealth Management, says many fears about the EU market have already been baked into stock prices. “The stock market tends be a great discounting mechanism that often anticipates the worst,” he says. In short, the recent decline of EU stock prices reflects the well-known possibility that one or more governments could go bust. “Given the current low prices of EU stock, whatever happens next, it is more likely that share prices will shoot up rather than fall further,” says Bakan.

With all the uncertainties ahead, you can assume that European stocks will be volatile. But so will U.S. stocks. And considering the huge size of their economy and the amount that the EU imports from the outside world, the rest of the world’s stock markets may be in for a wild ride, too.

You’ll have to decide if that ride is too wild for your taste, but Bakan favors keeping some EU holdings in a diversified portfolio. “In a moderately aggressive portfolio with 50 to 65 percent in stocks, I recommend that about 10 percent of the portfolio be allocated to EU stocks,” he says. Low-cost, well-managed funds that track the EU stock market are good options for most investors, says Bakan, including the Vanguard MSCI Europe ETF (symbol VGK), or the iShares MSCI EMU Index Fund (symbol EZU).

Paris, after all, was eventually liberated. And Europe, although severely damaged by World War II, came back strong. We may be in a down phase of an economic cycle, but “cycle” is the very word. This is not the end of times.

Europe and You The Saturday Evening Post

Before long, Sylvia was in well over her head. “I was up to a balance of nearly $7,000, and paying interest rates as high as 39.99 percent on seven different cards,” she says. “I realized that I was going to have a very hard time ever paying that off and I became very depressed.”

In today’s economy, Sylvia’s story is far from unusual. Americans hold an estimated 610 million credit cards, and the average household with credit card debt carries a balance of nearly $16,000.

With so many people owing so much, a large debt settlement industry has emerged. By way of unsolicited phone calls and advertisements on radio and television—usually late at night when the debt-ridden presumably are sleepless—these companies make promises of fast, painless relief. “We’ll cut your bills in half!” the ads promise. But, as the old adage states, if something sounds too good to be true, it usually is. According to a recent investigation by the Government Accountability Office (GAO), the debt relief industry is rife with fraudulent and deceptive practices that often leave people only more in debt, sometimes facing multiple lawsuits and bankruptcy.

Here’s what’s behind those promises of miraculous debt reduction. First, the firms tell you to stop paying your bills. After your creditors haven’t been paid for several months, the strategy is for the debt settlement attorneys to go to your creditors and offer them a lump sum payment for far less than the amount owed. It actually can work. The catch is that you’re stuck paying fees to the debt settlement company that may be close to—or even exceed—the amount you’ve saved. Plus your credit rating is shattered. In the worst case scenario, you might pay thousands to the debt relief company and still fail to reduce your debt in the slightest. These companies’ actions are “appalling beyond words,” said Senator John D. Rockefeller (D-WV), who ordered the GAO investigation. “These debt settlement companies are kicking people when they are down.”

There is a legitimate alternative to all this. It’s called “debt consolidation.” Such programs are usually managed by nonprofits following strict ethical guidelines that help you group your debts together into one payment (often using your home as collateral) so that your interest rates can be lowered.

In part due to the GAO investigation, new federal laws went into effect in October of 2010 that make it more difficult for unscrupulous debt relief firms to continue doing business as usual. But industry insiders warn that the new laws will not protect consumers from all fraud and deception. If you are in debt and can’t find your way out, consider the following tips to help you distinguish good help from bad.

1. Check under the hood. Look for a nonprofit credit counseling agency—not a for-profit “debt settlement” company. The nonprofit should belong to either the National Foundation for Credit Counseling (NFCC) or the Association of Independent Consumer Credit Counseling Agencies (AICCCA) or both.

These organizations set ethical standards that all member agencies must follow.

2. Beware extravagant claims. Legitimate companies aren’t going to cut your debt in half—or anything close.

3. Refuse up-front costs. Charging fees in advance is typical among the firms investigated by the GAO. Some of these companies demanded hundreds or even thousands of dollars on day one. A legitimate nonprofit agency will charge you no more than $50 a month, often less, and only after they’ve worked with you to lower your monthly credit payments by at least that amount, says Gail Cunningham, spokesperson for the NFCC.

4. Do a background check. Ask the Better Business Bureau and your state Attorney General’s Office if complaints have been lodged against any credit counseling enterprise you approach.

Sylvia Mitchell finally landed a fulltime position with the Transportation Security Administration. At the same time, she sought help from a nonprofit agency called InCharge Debt Solutions (a member of both the NFCC and AICCCA). With its help, she was able to consolidate her loans, lower her payments, get control over her budget, and, over two years, reduce her credit-card debt to zero. “I’ve learned my lesson,” Sylvia says. “No more credit. From now on, it’s just cash and carry for me!”

No Shortcuts to Debt Relief The Saturday Evening Post

National Foundation for Credit Counseling (NFCC). In addition to the main website, you might want to explore www.debtadvice.org, which offers a wealth of information on budgeting and the smart use of credit. The MyMoneyCheckUp tool will help you assess your debt, and to decide if you need help digging out.
Contact: 800-388-2227. www.nfcc.org

Association of Independent Consumer Credit Counseling Agencies (AICCCA). The AICCCA represents the common interests of member agencies to ensure that all who seek help with their debt problems receive the highest quality of assistance.
Contact: 866-703-8787. www.aiccca.org

Council of Better Business Bureaus. Check with the Better Business Bureau (BBB) and with your state Attorney General’s Office (below) to see if any complaints have been lodged against any credit counseling enterprise you approach.
Contact: 703-276.0100. www.bbb.org

National Association of Attorneys General. Visit the website (below) and click on the colorful map of the United States to find your home state’s office of the Attorney General.)
Contact: www.naag.org

Resources for Debt Reduction The Saturday Evening Post

Even though Huggins was a victim of ID theft, he received no sympathy from banks or the collection agencies. Under the Consumer Credit Protection Act, an individual cannot be held liable for charges incurred on a credit card for which the individual did not apply and did not receive. Therefore, the banks would ultimately be forced to absorb the bad debt, but, in the meantime, that did not stop collection agencies from trying to collect the money from Huggins.

Huggins spent countless hours writing multiple letters, making and documenting phone calls, leaving and returning messages, sending certified mail, and doing anything he could to right a wrong he never committed.

For his troubles, Huggins sued the banks for negligent enablement of imposter fraud, alleging they were negligent for issuing the credit cards without investigation, verification, or corroboration of the imposter. Further, he claimed the banks were negligent in attempting to collect the debt from Huggins, an innocent victim of a crime made possible by the banks’ lack of due diligence.

The banks—also victims of the fraud—asked the court to dismiss the case because Huggins was not their customer and, therefore, they had no legal duty to protect him. Huggins disagreed, arguing that banks have a duty to protect potential victims of identity theft from imposter fraud.

To legally establish a claim for negligence, a plaintiff must prove there is a legal duty of care owed by the defendant to the plaintiff and that there was a breach of that duty by negligent act or omission. In a negligence action, the court must determine, as a matter of law, whether the defendant owed a duty of care to the plaintiff. If there is no duty, there should be no action.

You be the judge.

DECISION:

“We are greatly concerned about the rampant growth of identity theft and financial fraud in this country. Moreover, we are certain that some identity theft could be prevented if credit card issuers carefully scrutinized credit card applications.”

Having said that, the court ruled in favor of the banks, citing that negligence liability does not attach unless the parties have a relationship recognized by law and “South Carolina does not recognize the tort of negligent enablement of imposter fraud.”

Adding an editorial note, the court also pointed out “that various state and national legislation provides at least some remedy for victims of credit card fraud…. While these regulations may not fully compensate victims of identity theft for all of their injury, we conclude the legislative arena is better equipped to assess and address the impact of credit card fraud on victims and financial institutions alike.”

Who Pays for Identity Fraud? The Saturday Evening Post

After Mary Falso paid her mortgage and other bills, there wasn’t much left over from her retirement income. The Goodyear, Arizona, woman found herself declining invitations to travel because she felt she needed to save her money in case the water heater broke.

Then she took out a reverse mortgage and used the proceeds to pay off the $110,000 mortgage on her home.

“With $900 more in my pocket each month, if I want to go somewhere, I go somewhere. I don’t have to worry about a thing,” says Falso, 70. “I was a penny pincher. After getting the reverse mortgage, it’s just like somebody took a ton of bricks off my shoulders.”

During this economic crisis, seniors facing shrinking retirement investments or foreclosure may be exploring reverse mortgages. Reverse mortgages can save some from foreclosure, and they may be a long-term solution for those who struggle to pay bills.

But each individual should explore all financial options in consultation with a HUD-certified credit counselor and a family member or advisor whom they know and trust.

If seniors have a large mortgage and little equity, a reverse mortgage can forestall a foreclosure in the short term, but if they have nothing left over after paying off the mortgage, they may still lose their home, says Jeffrey Taylor, a vice president with Wells Fargo Home Mortgage.

“If you’re going to use the reverse mortgage to pay off debt, you better be sure you have other income to pay taxes and insurance,” he says.

Reverse mortgages, which have been around for 20 years, allow seniors to access their home’s equity while living in their homes. Homeowners 62 and older are eligible for reverse mortgages if the house is their primary residence. Those who take out a federal Department of Housing and Urban Development (HUD)-backed reverse mortgage are required to receive consumer counseling from a HUD-approved counselor: the counseling is usually free or offered for a modest fee.

Borrowers choose to take the cash in a lump sum, as a line of credit, in monthly payments or as a combination of these options. Seniors do not have to pay the loan back until they move out or sell their home.

Those who already have a reverse mortgage needn’t worry about declining real-estate values. The loan amount is based on the home’s appraised value at the time of closing, so even if the home’s value drops below the amount of the loan, seniors can remain in their home, says Denise Hubbard, a reverse mortgage specialist with Mortgage Network, Inc.

“If the home should depreciate in the future, it would only affect how much equity remains when the borrower sells, and this is where the HUD mortgage insurance comes in,” says Hubbard. “It in no way affects any monthly payment they receive or their line of credit.”
Consumer Protections

Late last year, the federal government lowered the fees paid by seniors and raised the amount that seniors can borrow against their houses.

Prior to the change, the maximum allowable loan limit varied by region, with more costly areas such as California having higher borrowing limits than states like Alabama. So borrowers with homes of equal value were allowed different-size mortgages, depending upon where they lived, says Meg Burns, director of the HUD office that oversees reverse mortgages.

The new national limit for a reverse mortgage is $417,000 in the continental United States and $625,500 in Alaska and Hawaii.

The amount of equity that a home-owner is entitled to under the program is calculated based on the home’s value, the lending limit, the senior’s age, and interest rates. If there is a mortgage, outstanding tax bills, or liens on the home, they have to be paid with reverse mortgage proceeds first.

The new law also imposed a $6,000 cap on origination fees. Now, lenders can charge 2 percent for the first $200,000 of loan value and 1 percent of any additional loan value. Consumers are still charged 2 percent for Federal Housing Administration (FHA) insurance. These fees are paid when the home is sold. Lenders are required to disclose all fees in writing.

With traditional mortgages, the origination fee is sometimes charged to consumers in the form of a higher interest rate, so the consumer doesn’t see the full origination fee, Burns says. “There’s a misconception that a reverse mortgage is substantially more expensive than a forward mortgage,” she says.

Reverse mortgage specialists invest more than twice as much time in each customer, she adds.

Denise Hubbard, who has sold reverse mortgages for 15 years, often spends months with a customer who ultimately decides it’s not for them. “It’s a labor-intensive program,” says Hubbard, of Laconia, New Hampshire. “For those who have been in it as long as we have, it is a labor of love.”

But like any occupation, there are a few who tarnish everyone’s image. The new law adds regulations intended to help protect seniors from unscrupulous salespeople.

Historically, some predatory lenders sold seniors other financial products, such as annuities, that they didn’t need. The new law doesn’t fully protect seniors, says Peter H. Bell, president of the National Reverse Mortgage Lenders Association. “It doesn’t stop informal collaboration of two different individuals from two separate companies.”

Cautions Burns, “Never borrow money to invest in something else.”

How It Works

When a senior applies for a reverse mortgage, the first step is education because these mortgages are more complex than traditional mortgages. Seniors’ income and credit scores are not factors in determining whether they can get a reverse mortgage.

Seniors are encouraged to discuss the concept with spouses, adult children, financial advisors, and lawyers, says Bruce McClary, a certified financial specialist with ClearPoint Financial Solutions.

“There are a number of options you should look at before you go into a reverse mortgage,” McClary says. “It should not be done hastily.”

The next step is meeting with a counselor. There, McClary says, the consumer should disclose his or her entire financial picture. A reverse mortgage is considered an option for those facing long-term budgetary strain, but generally not for someone with a short-term need. (However, seniors with terminal illnesses have used reverse mortgages to pay for in-home care so they can die at home.)

Consumers may want to consider liquidating other assets before choosing a reverse mortgage. “It is a last resort,” he says.

On the other hand, says Taylor, from Wells Fargo, with the stock market at record lows, seniors may not want to sell stocks to pay the taxes or fix the roof.

Steve Boland, who directs Bank of America’s reverse mortgage business, says each case is different, and seniors should explore all their options. “Our job is to advise that this definitely isn’t for everyone,” he says.

While more than 90 percent of reverse mortgages are HUD-sponsored, Home Equity Conversion Mortgage (HECM) loans, some are not. HECMs, which are seniors’ safest option, are insured by the Federal Housing Administration (FHA), which is part of HUD.

Seniors are encouraged to shop around for a lender. Reverse mortgage lenders who are members of NRMLA, the trade association, agree to ethics and professional standards, says Bell.

Many of those who get a reverse mortgage are like Mary Falso, who is divorced and has no living children. They have enough in their retirement savings to live on, but they worry that they won’t have enough saved if something goes wrong, so they avoid travel or deny themselves simple pleasures like taking their grandchildren out for ice cream and buying flowers for their yard.

“That’s the nice thing,” she says. “When friends invite her out, now I can say okay.”

When Not to Get a Reverse Mortgage

While each individual’s circumstances are different, experts agree a reverse mortgage is ill-advised if seniors are getting it for the following reasons.

* To loan another person money.
* To start a business or help someone else start a business.
* To invest in the stock market, gamble, or purchase risky financial products.
* When the financial need is short term and temporary.
* When you have other assets that you can liquidate if you need funds.
* If you only plan to stay in the home for three years or less.

Additional Resources

To gain a better understanding of the fundamentals of how reverse mortgages work and to help you decide if the financial option works for you, visit the following websites for more information.

• Go to hud.gov and search for “reverse mortgages” or call 1-800-CALLFHA

• Go to www.nrmla.org, the National Reverse Mortgage Lenders Association

• Go to aarp.org and use their Reverse Mortgage Calculator to help determine how much cash you could get.

Mortgages Going in Reverse The Saturday Evening Post