I remember reading at some point how attitudes towards debt, consumer debt specifically, has shifted over the years.
Generation 1 never borrowed
Generation 2 borrowed for a home
Generation 3 borrowed for a home and a car
Generation 4 borrowed for a home, a car, and education
Generation 5 borrowed for a home, a car, education, appliances, and utilities
I won’t pretend to know the certainty of those generational stats, but statistically speaking today, we borrow money. A lot of it.
Knowing that, I’d like to unpack a 1-2-3 sequence on a thought, rules, and considerations
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1 Thought
Not All Debt is Bad, but Most Is
I think there are times when debt makes sense. It’s just not very often. The rest of this piece gives some lenses or filters to look through when evaluating debt and its potential role in someone’s life, but a generally sound rule of thumb is don’t borrow unless you have to. Most debt is bad debt, but there certainly are circumstances where it could make sense, such as (reasonable) student loans, home mortgages, and business loans. That said, you should consider two rules when evaluating debt.
2 Rules
The net economic return should be positive. This is a hugely important point and one that most people don’t actually calculate. If you’re paying interest for something, that thing better be increasing in value (sorry, auto loans on depreciating car values). Even if it is increasing in value, you also have to consider that while you most likely received the loan tax free, you’re paying that loan back with after-tax dollars, creating a larger hurdle for the appreciation to overcome. Lastly – the magical components of compounding interest work against you when in debt. Never borrow unless the net economic return is positive.
Both spouses need to be in agreement. In my own anecdotal experience, both personally and professionally, I’ve seen that one partner is more inclined towards debt than the other. And with money being a primary cause of marriage conflict, talking about debt before getting into it requires some serious conversation. You should never undertake debt without both partners being on the same page. And even then, you need to talk about the following three considerations.
3 Considerations
Debt presumes upon the future. This seems to be another area glossed over when folks talk about taking on debt. Any money that is borrowed Today inheritably assumes you have income Tomorrow to pay it off. You know what is said about assuming, but there’s a lot of truth here. We don’t know what the future holds. Job security is a myth and our health isn’t guaranteed. Taking on decisions Today based on Tomorrow carries risk. One way to live out this truth is to have a guaranteed way to pay off the debt if need be. Maybe this is cash in the bank equal to the debt amount, or maybe it’s an underlying asset tied to the debt that could be liquidated in a reasonable time period.
Debt is infinitely easier to get into than to get out of. It’s so ridiculously easy to get into debt. In fact, it might require more effort to stay out of debt when we talk about our cash-flow. If we don’t pay off the credit card for a few months, decide we deserve that car upgrade, or think we’ve worked hard and are entitled to that extra extraordinary vacation, banks and credit companies are more than willing to agree with you. Getting in debt is easy – but getting out requires a lot of discipline and a lot of work.
Debt is oftentimes symptomatic of other issues. This one cuts beneath the balance sheet. Getting into debt can be the result of other underlying financial issues, such as a lack of discipline with cash-flow, insufficient savings habits, or the inability to plan ahead. It also could be the result of unhealthy non-financial issues, like impatience, or envy, or greed, or lack of self-control. So before taking on debt, it can be wise to spend some time considering why you’re even making the consideration.
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Again – let me be clear: I’m not ruling out all debt. But I am advising against it for the majority of households, especially consumer debt.
If you’re contemplating taking on debt, walk through this 1-2-3 thought process. And at the end of it, you feel at peace with doing so – by all means, go ahead. But too many families get into debt too quickly, then find themselves swimming within it trying to get back on top of things.
Debt obligations tie up our cash-flow, and restricted cash-flow can force us to potentially live lives not fully aligned or fully engaged with what our Values really are.
// Credit to to Ron Blue and his teaching through Kingdom Advisors for influencing my thoughts on debt, among other financial topics.