Is there such a thing as good debt?
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I have written and rewritten this debt post several times because this is a complex topic. I hope you’ll enjoy this post.
I think we can agree that most debt is bad. The average household in the U.S. has $16,748 in credit card debt. These debts are typically an accumulation of money spent unintentionally. Did that happen because of one single purchase? No. Usually it’s many small things that add up and before you know it, you can’t see a way out.
A couple things I have read make me realize the importance of intentional spending, which is harder to do with debt than it is with cash. Henry David Thoreau once wrote:
“The price of anything is the amount of life you [have to spend earning a paycheck to] pay for it.”
So the price of a thing is your freedom. Is anything that important? Admittedly that seems a bit dramatic but just consider that when you buy something with debt you are committing to paying it back. For most of us that means we’ll have to work to earn a paycheck. So in a sense it does cost you your freedom. I believe that when we use debt we disconnect ourselves from the “pain” and do not fully appreciate how much work it will take to pay for an item.
How we dilute purchase pain with payments:
For example, because I love examples, if someone earns $40,000 a year and buys a $30,000 car. Will it take them 3/4 of a year or 9 months of work to pay for that car? Nope. It will take more because the tax man gets paid first. So it could take more like 12 months of paychecks to pay for the car. That is 12 months of paychecks and you don’t get to pay rent or buy food! Only 12 months of work just to pay for the car…. okay you can’t go 12 months without eating or paying rent. So to make sure you have a place to live and food to eat, for 24 months you give 1/2 of your paycheck away…. ouch. You know what doesn’t heart so bad? A couple hundred bucks a month for 60 months… but you still have to do the same work, you just spread out the pain, diluted it, so you don’t feel it!
Here’s another quote:
“The borrower is slave to the lender”
Slave, that’s a pretty powerful word but if any of you have ever had a loan from a family member or have had debt collectors calling, you understand exactly what I mean. When you owe someone money it’s difficult to enjoy a vacation or some new gadget because you can’t help but to think, “This was purchased with money that could/should have been repaid to the debtor.”
Now I have also read stories of individuals making tremendous amount of wealth by leveraging a position on a real estate deal. For example, putting down $100,000 for a $500,000 place and selling it later for $700,000. Roughly turning their $100,000 into $300,000 (selling price less debt). That’s excellent but I think these risky investments, which leverage debt, should only be done when you can take a financial hit. What if the real estate value fell to only $250,000 but you owed $400,000 and had invested $100,000? Well you better be in a great financial situation so that hit doesn’t turn your world upside down.
If we say there are three kinds of debt, consumer debt, mortgage debt, and debt for investments. The biggest issue with using debt for investments is overconfidence. When you’re not spending your own money you don’t make the same decisions you would make if you were having to sign a check or transfer money from your account for the purchase.
I conclude there is no good debt. Yes there may be people that have leveraged debt to prosperity, however is not the norm and although many of us feel like we are above average, statistically that cannot be the case.