Our company has grown quite a bit since our last Lunch & Learn. Nick, a fresh face in our client relations department, kicked off our latest round of classes by discussing “velocity banking”, a somewhat complicated strategy he uses for managing his personal finances.
Nick began the session by aptly suggesting that “everything we know about banking is taught by the banks.” Any information that flows from these institutions will likely direct consumers toward the lucrative banking products they offer. It’s no secret that banks earn the bulk of their money by issuing loans, often through clever refinancing options that offer lower monthly payments but could end up costing borrowers more in the long run. Nick, through his education and individual research, arrived at velocity banking as an intriguing possibility for quickly paying off large sums of debt (i.e. a mortgage) while continuing to build a strong credit history.
Anyone with outstanding loans may look to squirrel away money and make the largest payments possible from their checking accounts. You could refinance or consolidate your loans under this model, but anything you previously paid toward interest can’t be recovered or re-allocated. You still owe the same principal balance and now you’ve taken on a fresh set of interest payments. As such, the banks may lower your monthly payments through refinancing, but the total sum of money you end up paying (the principal, new interest, and the interest you already paid) could end up far higher than your initial dues.
To potentially mitigate this costly situation, Nick introduced the idea of making payments from a line of credit instead of personal funds. Paying off a loan with a line of credit instead of your checking account can help you make larger payments, fortify your credit, and retain your actual money. If you make payments from your checking account, those funds are gone forever and any emergency expenses that arise can leave you in a sudden bind. A line of credit helps you make consistent payments without carrying the risks of a zero-balance checking account. Furthermore, by building a strong record of timely payments to satisfy your liabilities, you can boost your credit (and therefore your purchasing power) for other major investments down the road.
Nick was keen to point out that financial situations vary and what may benefit one person could harm another. Personally evaluating the pros and cons of a particular strategy can help you make educated decisions. New Direction IRA does not recommend or endorse any particular course of action, but we do encourage as much due diligence as possible when reviewing alternative banking strategies.