Consumer Debt IS Stupid

And I’m sure when I say the following it can be applied to 99% of anyone who happens to come by and read this blog: As much as we want to justify in our minds that borrowing money for things that actually go down in value is ok, we are only kidding ourselves and we might even be considered stupid.

Disclaimer: Please don’t flame me as I can assure you that in the past I have fallen into the 99% of people who have had consumer debt when I should not have had it! Yes, I was stupid, but I learned the errors of my ways!

Borrowing money to pay for a house – as long as you get a good deal on the house and have a honest expectation that the value of the house is going up WHILE you live in it, it is reasonable to borrow money to purchase the house.

Borrowing money to buy a car – even when you get a 3.1% interest rate on the loan, you may be considered stupid for borrowing money to pay for a car that most assuredly is going to go down in value.

Borrowing money to pay for a $ 125.00 dollar meal – “I’ll pay it off at the end of the month when I get the credit card bill” you tell yourself. If you do this, put yourself squarely in the STUPID category! Why would you pay a 1.5% interest rate (18% per annual) for that month on a meal that only gave you two hours of joy? Instead of borrowing money on an over-priced meal, take $ 25.00 dollars in cash and go to the grocery store and get enough groceries to invite a couple of friends over and really enjoy a cook-out on the grill!

I’m not the only one who feels this way when it comes to consumer debt… Here are a couple other guys who are way smarter than me on this subject!

Consumer debt is not your friend

by Seth Godin
May 5th 2010
Website: http://sethgodin.typepad.com/

Here’s a simple MBA lesson: borrow money to buy things that go up in value.Borrow money if it improves your productivity and makes you more money. Leverage multiplies the power of your business because with leverage, every dollar you make in profit is multiplied.

That’s very different from the consumer version of this lesson: borrow money to buy things that go down in value. This is wrongheaded, short-term and irrational.

A few decades ago, mass marketers had a problem: American consumers had bought all they could buy. It was hard to grow because dispensable income was spoken for. The only way to grow was to steal market share, and that’s difficult. Enter consumer debt.

Why fight for a bigger piece of pie when you can make the whole pie bigger, the marketers think. Charge it, they say. Put it on your card. Pay now, why not, it’s like it’s free, because you don’t have to repay it until later. Why buy a Honda for cash when you can buy a Lexus with credit?

One argument is income shifting: you’re going to make a lot of money later, so borrow now so you can have a nicer car, etc. Then, when money is worth less to you, you can pay it back. This idea is actually reasonably new–fifty years or so–and it’s not borne out by what actually happens. Debt creates stress, stress creates behaviors that don’t lead to happiness…

The other argument is that it’s been around so long, it’s like a trusted friend. Debt seems like fun for a long time, until it’s not. And everyone does it. We’ve been sold very hard on acquisition = happiness, and consumer debt is the engine that permits this. Until it doesn’t.

The thing is, debt has become a marketed product in and of itself. It’s not a free service or a convenience, it’s a massive industry. And that industry works with all the other players in the system to grow, because (at least for now) when they grow, other marketers benefit as well. As soon as you get into serious consumer debt, you work for them, not for you.

It’s simple: when the utility of what you want (however you measure it) is less than the cost of the debt, don’t buy it.

Go read Dave Ramsey’s post: The truth about debt.

Dave has spent his career teaching people a lesson that many marketers are afraid of: debt is expensive, it compounds, it punishes you. Stuff now is rarely better than stuff later, because stuff now costs you forever if you go into debt to purchase it. He’s persistent and persuasive.

It takes discipline to forego pleasure now to avoid a lifetime of pain and fees. Many people, especially when confronted with a blizzard of debt marketing, can’t resist.

Resist. Smart people work at keeping their monthly consumer debt burden to zero. Borrow only for things that go up in value. Easy to say, hard to do. Worth it.

Here is the reference that Seth linked to Dave Ramsey, who himself, is a very insightful individual on the subject of personal finance… another worthy read!

The Truth About Debt
from daveramsey.com on 03 May 2010

By Dave Ramsey
Website: http://www.daveramsey.com/articles/home/

Myth: Debt is a tool and should be used to help create prosperity.
Truth: Debt isn’t used by wealthy people nearly as much as we are led to believe.

Debt is dumb. Most normal people are just plain broke because they are in debt up to their eyeballs with no hope of help. If you’re in debt, then you’re a slave because you do not have the freedom to use your money to help change your family tree.

According to a USA Today article about debt, 78% of Baby Boomers have mortgage debt, 59% have credit card debt, and 56% have car payments. It takes a lot of will, discipline, courage and help to slay the debt monster. But it can be done. Imagine how much you could put toward retirement if you just didn’t have a stinking car payment? This is how the wealthy really build their wealth. Debt is dumb. Welcome to the real world!

Dave Ramsey’s Background

When training for my first career in real estate, I was told that debt was a tool. "Debt is like a fulcrum and lever," allowing us to lift what we otherwise could not lift. We can buy a home, a car, start a business, or go out to eat and not be bothered with having to wait. I remember a finance professor telling us that debt was a two-edged sword, which would cut for you like a tool but could also cut into you and bring harm.

The myth has been sold that we should use OPM (other people’s money) to prosper. The academic garbage is spread really thick on this issue. We are told with sufficient snobbery and noses in the air that sophisticated and disciplined financiers use debt to their advantage. Careful there, you’ll get a sunburn on your upper lip.

Consider the Risk

My contention is that debt brings on enough risk to offset any advantage that could be gained through leverage of debt. Given time—a lifetime—risk will destroy the perceived returns purported by the myth-sayers. I once was a myth-sayer myself and could repeat the myths very convincingly. I was especially good with the "debt is a tool" myth. I even sold rental property that was losing money to investors by showing them, with very sophisticated internal rates of return, how they would actually make money!

Boy, what a reach. I could spout the myth with enthusiasm, but life and God had some lessons to teach me. Only after losing everything I owned and finding myself bankrupt did I think that risk should be factored in, even mathematically. It took my waking up in "intensive care" to realize how dumb and dangerous this myth is. Life hit me hard enough to get my attention and teach me.

According to Proverbs 22:7, "The rich rule over the poor, and the borrower is slave of the lender" (NRSV). I was confronted with this scripture and had to make a conscious decision of who was right – my broke finance professor, who taught that debt is a tool, or God, who showed the obvious disdain for debt. Beverly Sills had it right when she said, "There is no shortcut to any place worth going."

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