The Credit Crunch Hits the High End

06/17/2009 10:29 am EST

Focus: MARKETS

Liz Pulliam Weston

Personal Finance Columnist, MSN Money

Liz Pulliam Weston of MSN Money says even affluent families have gotten too deep into debt, and the winners will be those who remain relatively debt-free.

If your mortgage, car, and credit card payments are sucking up 40% or more of your gross pay, you probably already know that you're in big financial trouble.

The Federal Reserve uses this 40% mark as a "compelling indicator of distress" in household finances. And the less you make, the more likely you are to be in that squeeze.
But here's something interesting: Higher-income folks are getting into trouble faster.

We're still talking about a minority of higher-income households taking on too much debt, especially compared with those on the bottom of the economic ladder. But the debt binge has cut across economic lines.

Until now, one of the biggest economic divisions has been between those at the top of the economic pyramid and everyone else. Most of the income gains made since 1998 have accrued in households in the top 10%, while the earnings of other households have been relatively stagnant. Widening income disparities were masked in large part by looser lending standards, which allowed plenty of Americans to finance life styles they couldn't actually afford.

That credit binge led directly to the financial crisis and the current recession. Now, one of the big, defining differences will be between those who resisted the urge to max out and those who didn't.

Consider:

  • Credit card companies are thwacking credit limits and jacking up interest rates, regardless of incomes or credit scores. Least affected are those who don't carry credit card balances. Most affected: those who carry big balances and can't quickly pay them off.
  • Mortgage rates are low, allowing home buyers and refinancers to lock in lower payments. But tighter underwriting standards mean those with big debt loads can't take advantage.
  • Lenders are freezing or lowering limits on home equity lines of credit. Those who opened credit lines for emergencies and left them open and unused may still have access to this credit. Their neighbors, who maxed out the line to pay for a kitchen remodel, may not.

Those who entered this recession with less debt probably will do better than those who didn't. They will have more financial options and be able to weather any pay cuts better than those who have a big nut to make every month. They will be able to take vacations, move across the country, change jobs.

Now, some folks who did everything right will still wind up on the rocks. They may have bought a modest home, avoided credit card debt, and limited other loans, but still wound up in bankruptcy court because of job loss, illness, disability, or divorce.

But those who stretched too far to buy a house, carried credit card balances, and loaded up on car and home equity loans are much more likely to find themselves in a bind even without a catastrophic event.

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