A loan officer I know asked me to discuss a topic that she deals with every day: Debt. Specifically good debt vs bad debt. And the choices people make when buying things they think they need. Here are her words:
“Debt is a super hot topic right now … so explore good debt vs bad debt. People spend $50,000 on a new car which depreciates immediately vs buying a home that long term typically appreciates and helps build wealth — crazy to me!
And let’s not forget student loans … you don’t need a college degree to make money anymore. The reason behind some of the tradesperson salary inflation is due to the lack of trade workers right now.”
While I might argue that for some folks college can be a good investment, there certainly are a vast number of people weighed down by their student loans. And they aren’t earning as much as some tradespeople — who don’t carry hefty loans and interest payments. Good to remember when considering for-profit colleges with easy-to-get loans and iffy real life returns.
⇒ Pros & Cons of Choosing a Trade School Instead of College
Why debt matters to your career
Life decisions — including what kind of jobs you take — are often influenced by your personal finances. If you’re loaded down with debt, you may decide it’s silly to pursue your career dreams. Or you may not be able to retire when you hoped to finally let that 9 to 5 work life go.
But not living a life buried under debt can offer all kinds of personal freedom. Including what you decide to do for a living. And when it’s time to let those retirement dreams take over.
So managing your debt and what you decide to add to the debt load you carry is important on many levels. And that includes your career. The less debt you carry — especially unnecessary debt — the more freedom you have to choose from want and not from financial obligation.
Potential bad debt
When the urge to buy something strikes, the life value and immediacy of that urge can grow in importance. At least in your mind. And when that happens, what doesn’t grow is the time spent doing cost-benefit analysis of that potential purchase. Even more so when you see the item on sale or think you’re getting a good deal.
Okay. Let’s face it. Even the mere idea of cost-benefit analysis feels boring. And certainly pales in comparison to the excitement of getting something new you really want — and feel pretty sure you absolutely need or need enough to take on debt.
But it’s the extra debt you really don’t need. Especially if you can’t pay it of each month, which only adds interest charges on top of growing debt and then you accumulate interest on the interest. Bad debt for sure!
Things you might not really need
Although everyone has their own idea of what their life needs, many times items like the following can be put off … or simply left off the “must have” list:
- Fancy tech equipment.
- Designer furniture.
- Latest style clothes every year.
- Hair and nails weekly (really adds up if you do the math).
- Weekly pickup / drop-off laundry service.
- Pet care that includes grooming and vet bills.
- Pricey cable services.
- Subscriptions to lots of things you forget you even have.
- Latest and greatest anything.
Look. I know that some of that may feel or even be essential to your life. But if you’re already charging things and paying off on time, then things like these need to be reconsidered. Even pet ownership (a wonderful thing I admit) if your money is tight — so unexpectedly expensive if they get sick or need special care.
It all adds up
And it’s all on future time and will have to be paid off, slowly draining money you could be saving for truly important future needs. “But it’s only $2 or $5 or $30! And I can pay that off easily I’m sure.” I know I sound like a broken record, but it adds up. In either direction … spending or saving. And don’t forget to look for the best interest rates. That adds up too if paid over time!
A friend of mine decided to really dig into his expenses and was able to save about $200/month. That’s $2,400 in a year. And $24,000 in ten years. PLUS the interest he gets (not owes) from actual savings. With only 3.5% interest on savings, that’s over $28,000 in ten years. And as a BONUS there’s the money he saves from less debt costs!
That sure would help make a nice down-payment on a house. Or go toward buying a car and perhaps even courses to increase skills for career growth. Or whatever other big ticket item you will have earned for yourself through smart savings and keeping an eye on bad debt. Not bad from just cutting out some things you can easily live without.
Speaking of future time, some of those savings will also go toward your retirement, which represents a major gift to yourself if financial needs are considered and planned for in advance. No matter how early in your career you might be, money saved now can really make a difference!
Potential good debt
So not all debt is bad debt. Buying your house with the help of a mortgage can actually be a good use of debt. For many, owning your own home is the “good life” dream. Not answering to a landlord. Or worrying if you’re going to be asked to leave when your lease is up. Or fearing the dreaded annual rent increase.
But there’s also the temptation to stretch your finances to the max — even borrowing from a third party — on top of your mortgage. All that just to get your ultimate dream house. And in that case (bet you know what’s coming) that’s actually bad debt. Not only will you be burdened paying back those debt costs, but you’ll deplete any chance of enjoying daily treats without piling up more debt. And buh-bye retirement funds.
Do you really need the latest & greatest?
While most houses will likely appreciate in value over time (unless you vastly overpay), does it have to be the biggest and most fabulous? Is your dream really about having the “best” in superficial terms with all the bells and whistles, or the best in building a home you can call your own and love. Even if not the envy of all you know.
I recently watched a Million Dollar Listing LA rerun (one of my weaknesses … but free with my basic cable service). Josh Altman, one of the successful real estate agents on the show, found an amazing house for sale — almost a small palace. And he was excited to have this house for himself and his family.
But his wife Heather reminded them of the extra carrying costs (they do have lots of money but not unlimited) and also of the warmth of the house they have now. And Josh thought hard about how much of themselves they had put into their current house. He realized they don’t need the latest and greatest. They need a home that truly feels like home. Their own palace.
So what actually is good debt?
In simplest terms, it’s debt you can afford and pay off without sacrificing your future wants and needs. And debt that doesn’t feel like you’re carrying a mountain of obligations on your back.
Even if it feels good in the moment, it pays (pun intended) to stop and think. Is it good debt or bad debt? Will it work for you or will you have to work for it. And most of all, to whom are you giving control of your life and future.
More posts to help
How Much Money Do You Need To Retire?
How To Create a Cash Flow Spreadsheet
How To Create a Budget Plan Spreadsheet
Credit 101: How To Make Credit Work For You
Present Value: Understanding Value of Money Today
Why Diversified Investing Is So Important
I Want To Learn To Invest in Stocks
Roth IRA vs Traditional: What’s the Difference?
Investing Your Money: Do You Need a Stockbroker?
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