Many people associate the word debt with other four letter words. You know, the ones we say almost daily but don’t want our kids to hear. I LOVE debt. Debt helps me create wealth. Debt helps me buy things that I normally couldn’t buy, or would have to wait years to be able to afford if I were paying in saved up cash. There are certain kinds of debt that I do HATE. Let’s get clear on the difference, and which ones deserve to be attacked and eliminated and which ones should be enhanced.
I know there are gurus who say attack your smallest debt first and although this makes sense to create quick “wins.” However…
My answer might be different, and depends on 2 things:
Is the debt collateralized? Meaning, is there an asset that the debt is attached to that has a value greater than the debt? I personally HATE unsecured debt but I have no issue with secured debt whatsoever. For example, if I have an auto loan for $30,000 and my car is currently worth $40,000, then that’s certainly not a debt I’m concerned about attacking. If I have credit cards with balances of $35,000, then even if the interest rate is higher on the car (highly unlikely but for illustration), I’m attacking the credit cards because it’s unsecured debt. If anything goes wrong with my income or the economy takes a dive and it affects me, then I can’t sell any assets to cover the debt. Unsecured debt causes me to lose sleep, especially unsecured consumer debt. For example if I take a vacation and put it on a credit card, I’m attacking that debt first.
The other condition is the interest rate. I don’t personally have any issue with any interest rate at 6% or less. I believe in “opportunity cost”. In other words, if I pay down low interest debt just to get debt free, then that is money that will not be able to earn a higher, potentially life changing return somewhere else. Just recently, my wife was ready for a new SUV upgrade. We were planning on waiting a year, but we really needed additional tax deductions so we took advantage of the 6,000 lb. end of year strategy that I’ll explain more in another blog. We ended up picking out a Mercedes 450 and the price tag was $95,000. Although we could have paid cash, the interest rate to finance the purchase was only 3%. I firmly believe in my ability to get more than 3% return on my cash, in fact a lot of my real estate gets 10-15% and my latest self storage syndication fund I’m expecting 25% ROI (Return on Investment). So if I paid for the car in cash, then instead of earning 10% on my cash, I’d be saving 3% – the difference being 7%, that is my opportunity cost of buying the car in cash. If you look at 7% of $95,000, thats nearly $7,000 per year in unrealized income that I’d be giving up by paying for the car in cash just to be “debt free”. If you look at the self storage fund, let’s say it ends up at 20% on the lower end of expectations so my net is 17% – that’s over $16,000 in unrealized income given up to again, be “debt free”.
My order for attacking debt:
In personal finance there are various opinions so you need to do what makes sense for you. This makes sense to me, attacking them in this order:
- Unsecured, high interest – this is the plague, it’s fucking Black Death, the Anti-Christ, scum of the earth debt. Ok, sorry I got carried away, but you get my point. This debt has no room in your life. You should be getting an extra job or a side hustle to generate income to pay this off and get it out of your life once and for all. The average rep in our direct sales company makes a few hundred extra dollars per month. That could be enough to get that paid off so much faster.
- Unsecured, mid interest – this is what I’d attack next for the previous thought that I don’t like unsecured debt.
- Secured, high interest debt – possibly you got yourself into a bad deal on an auto loan or on a toy you shouldn’t have bought. Let’s get this paid off and clear off that high interest rate.
- Unsecured, low interest debt – this is most likely student loans. I’d make the minimum payments and let this ride.
- Secured, low interest debt – this is most likely your primary residence, or real estate investment property. I’d only pay the minimum and spread this out over a 30 year payment schedule. Anything you pay sooner toward principal, is now very tough to get at if you need it – it’s not liquid and accessible. Remember that the bank wins when you pay it down quicker because then they can take your extra cash flow and loan it out and make 500% or more on your money. Keep that money to yourself and go invest it to create a bigger percentage, or at the very least put into something that matches the interest rate on your mortgage note but gives you liquidity when you need it – like a high cash value life insurance policy.