No Such Thing As Good Debt?

by Ron Haynes


Yesterday I wrote an article about 13 loans that scare me to death, but the truth is, almost all debt scares me to some degree. Now I know what you’re thinking – what about a mortgage, what about student loans, what about business loans, yada, yada, yada. What about those all important loans that are taken out to buy an income producing asset?

Yes some debt IS necessary to produce a certain lifestyle. My problem with most debt is that debt controls you. It controls your thoughts, your actions, your motivations, your choices regarding employment, and your life in general. It’s always in the back of your mind.

Debt controls you

Yes, just like the book title reads in Debt Is Slavery, debt puts you in chains of some sort. Don’t believe me? Think of it this way:

If you lost your job tomorrow, would you worry about how to pay your mortgage? “No, I have a 3 (or 6 or 12) month emergency fund.” Great – would you be worried at the mid way point of month 3, 6 or 12 if you still hadn’t found a job? That worry is debt’s control over your life. Now imagine the same scenario with a completely paid for home … it has a whole new flavor.

Debt is what keeps me awake at night. It makes me hedge my answers when asked my opinion at work. It makes me wonder if I have enough insurance. It makes me cautious with spending money on anything at all … especially something frivolous.

I’ve been in debt for all the right reasons:

  • mortgage
  • business loans
  • student loans to get my undergraduate degree
  • student loans to finish my degree 15 years later
  • student loans to get my graduate degree

and for all the wrong reasons:

  • to buy disposable items
  • vacations
  • restaurant meals
  • cars and trucks
  • gizmos and gadgets
  • lifestyle debt

When I’m in debt (for whatever the reason), it’s always in the back of my mind. It’s an obligation that never turns off.

Debt drives the insurance industry

Debt is the reason for a lot of insurance. How much car insurance coverage would you get on a new vehicle if it was completely paid for when you drove it off the lot? My guess is a lot less than the bank demands – after all, that car isn’t fully yours just yet.

Avoiding future debt or too much current debt is the reason for mortgage insurance, the reason for a lot of life insurance, the reason for health insurance, disability insurance, and the list goes on.

Good debt vs. bad debt

Is there such a thing as good debt and bad debt? That depends on your perspective. Debt is great when it helps someone buy a home that appreciates in value, provides shelter for their family, and becomes a “home.” That same debt is very bad when the home declines in value, the owners cannot sell it for more than the mortgage balance, and the breadwinner dies with less than sufficient insurance to pay it off, forcing the family to make some very hard choices.

Debt is great when it enables a student to attend the university of their choice but it becomes very bad when the repayment schedule comes due and the student hasn’t found employment with a high enough salary to make the payments.

Debt is great when it helps a family start a business and provide goods and services to the community. That same debt is bad when the business falters and the owners have to sell all their assets to pay off the debt and avoid bankruptcy.

Debt is a double edged sword

Debt is a double edged sword, capable of doing a lot of good, but also capable of destroying your life. Handle that sword with the utmost care and deliberation, not with a flippant attitude.

About the author

Ron Haynes has written 1000 articles on The Wisdom Journal.


The founder and editor of The Wisdom Journal in 2007, Ron has worked in banking, distribution, retail, and upper management for companies ranging in size from small startups to multi-billion dollar corporations. He graduated Suma Cum Laude from a top MBA program and currently is a Human Resources and Management consultant, helping companies know how employees will behave in varying situations and what motivates them to action, assisting firms in identifying top talent, and coaching managers and employees on how to better communicate and make the workplace MUCH more enjoyable. If you'd like help in these areas, contact Ron using the contact form at the top of this page or at 870-761-7881.


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{ 13 comments }

Evolution Of Wealth

Maybe it’s a control question. Are you controlling your debt or are you letting your debt control you? Living in constant fear must be tough. I don’t think I could go through life that way. That sounds horrible.
I’m confused about one of your statements. You said if you paid cash for your car you would car less insurance? Car loan insurance requirements are pretty minimal. Why would you have less? When you pay your house off will you drop that insurance?

Ron

It may be a control question, but I’m almost debt free as it stands today (a mortgage and one small student loan that should be knocked out next year). I don’t live in fear, but back when I was up to my eyeballs in debt, having paid off over $120,000, it weighed heavily on me, as I think it would anyone.

On the insurance thing, if I buy a $3,000 truck with a bank loan, I’m required to insure it. If I pay cash for it, I’m required to only insure it for liability — that’s what I was talking about there.

Jeff@MySuperChargedLife

Ron – I only owe on my house and that will be paid for in a few years. I think it is liberating when you don’t owe people money. You have the chance to make your own choices. Debt drives you to keep the job you hate because you can’t afford to make less. Debt keeps you from starting your own business because you don’t have any capital. Debt limits your options. I’m a firm believer in living free from debt. I think all debt is bad!

Credit Card Chaser

It can certainly be liberating to not have any debt but in many situations where you absolutely need to take on some sort of debt in order to get a hold of some kind of appreciable asset/cash flow producing asset it can actually be quite a bad business decision to not take on debt. For example, if I know that my business can scale up rapidly and my business can generate an ROI of 18% then for me to not take on a debt load that only costs me 10% would be a bad business decision generally speaking.

Ron

And in that type of case, it makes perfect sense!

kitty

OK I am debt free, and yes it is nice. But… If I had an opportunity to borrow at lower interest rate than what I can get on say municipal bonds, I’d do it.

If I had been 100% sure about upcoming inflation, I’d have taken some low fixed income debt as well. E.g. if I were to upgrade to a more expensive home for which I’d have cash, I’d choose a mortgage instead at current low interest rates as a hedge against inflation. If I were to buy a new car – don’t need one right now – and the dealer offered me 0% financing, I’d take it even though I have cash.

Whether or not debt controls you depends on many factors – type of debt (fixed or variable), payment amount, interest rate, whether or not you have the money to repay the debt at any moment.

As to student loans: taking 100K for a liberal arts degree is probably bad, but taking 100K for a medical degree is not (and is a necessity for anybody who isn’t super rich).

Whether or not to take the loan in cases when it is not a necessity is really an investment decision. As any investment decisions it could be a good one – i.e. lead to more money – or a bad one and lead to lost money. In some cases it’s a risk. But you are taking risk with other investments too e.g. when you invest in the stock market.

Ron

To my way of thinking, arbitrage isn’t really the same thing as good old fashioned debt. If you have the ability to borrow $50,000 at 3% and put it in municipal bonds at 5%, you’d be crazy not to. For most people, debt isn’t for appreciating assets, it’s for depreciating assets. Those bonds make money and create a positive cash flow. The car example, could do the same thing if you kept the money invested and earning interest while you made the monthly payments. All the examples you gave were for debts to buy (invest?) in an appreciating asset or, as in the car example, to allow your money to continue to earn interest.

Your comment “Whether or not debt controls you depends on many factors – type of debt (fixed or variable), payment amount, interest rate, whether or not you have the money to repay the debt at any moment.” sums it up quite nicely, especially that last phrase! I would wager that very, very few borrowers have the ability to repay their debt at any given moment. That’s where the worry creeps in.

Evelyn Guzman

This is an excellent article that puts one on the right perspective. We cannot delude ourselves thinking that the debt we incur is a good one for all the scenarios you painted for our benefit. The lesson learned is that not to take any debt, good or bad lightly. One should always have a cushion to fall back on when the going gets tough.

Evelyn Guzman

kenyantykoon

my view is that there is somethings as good debt- when in after the said time it gets you something that benefits you in the long run. like for instance a loan to start a business which after a while breaks even and you have an asset in your name. But the problem is that they can rapidly escalate into bad debts if if the calculations were off and at that point you will be screwed. But this should not make someone not take a calculated risk to develop your life because it may just go well. Bad debts kill you off slowly from day one- like a yuppie buying a new convertible bimmer on credit

Barbara G Meyer

Credit card chaser and Kitty both make good points: there are times when debt is the only way to get where you are going, and the end result will be more valuable than the debt (with houses that is not true right now, but these are very exceptional times.) The problem with most of us, is that we get to the point that we can’t afford to lose our jobs or change to a job that pays less but is more fun, because of that ball and chain of debt around our necks–even mortgages and student loans (which are otherwise good debt). So NO DEBT is the only really good debt because it is only be being COMPLETELY debt free, that we have real freedom. That is what Ron is saying, IMHO, and I agree 100%.

I use–frequently–my credit cards, all three of them. I pay them off automatically every month, and I pay NO interest or fees. And if my cards started charging them (and they won’t: I have 2 AT&T Mastercards I got years ago, which promise me NEVER to charge fees. The other is a low limit card for internet use only–but also no fees.) I will drop them like a hot potato and find others.

Matt

I agree that Debt is a double edge sword. In the case of a mortgage (for example) you can pay the minimum on a house note over a long period of time and “invest the difference” and you can come out way ahead that just spending extra money to pay down the debt faster.

But it depends on the person, and whether they have the disciplined enough to control that debt, rather than vice versa.

traineeinvestor

While few would argue that debt is a double edged sword, my view remains that on balance debt is a good thing if used and managed appropriately.

In my own case the use of debt enabled me to buy more real esate as Hong Kong was emerging from the Asian crisis and SARS in 2004 and subsequent years than I could have without that debt. The use of debt has significantly improved our household balance sheet and accelerated our progress towards financial independence. Could it have worked against us? Possibly, but we had plans to deal with most of the things which could have gone wrong, including a further decline in property prices and rents and the loss of one job.

I lost a lot of sleep the first time I borrowed to invest. Once the rent started coming in, everything was fine. Now I suspect I would lose sleep over the loss of opportunity if I did not gear my investments. That said, once we quit working we will progessively deleverage as we will not have our salaries to fall back on.

Johanne

During this economy, it’s quite hair raising to get into any kind of debt. It’s much easier to live life the old fashioned way where liquidity is more valued than credit.

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