Tuesday, July 22, 2014

ALL debt is RISKY debt

It's time to dispel a myth once and for all. There is no such thing as "Good debt".  This will no doubt be a controversial post, but it has to be said... ALL debt is RISKY and therefore potentially bad!  There, I said it. I don't feel guilty saying it and I won't repent. It's all risky, risky, risky!

Whew! This coming from a guy who's successfully leveraged debt to buy multiple properties and build a rental real estate portfolio that will care for us well into our old age. Seems awfully hypocritical, doesn't it?  Perhaps. However, I like to think that this conclusion regarding debt is part of the evolution of personal finance education acquired through the years.

Oh, no! He's drunk the Dave Ramsey Kool-Aid. Well, as much as I agree with Dave Ramsey's position on several points, I'm my own man and do my own thinking. Like most, I take a little from here and a little from there and mix it together with my own values to arrive at a philosophy I can call my own. Now, on with five reasons that all debt is risky:

1) Debt = Risk

Unless you maintain the cash to be able to pay off the debts you acquire in an easily accessible bank account, you run the ever-constant risk of a health or economic crises that may cost you your job. Such unforeseeables can put your financial and emotional well-being at risk. Carrying debt is like playing Russian Roulette. There's a real chance (1 in 6 or 17%) that you could loose and be set back financially for many years--if you recover at all.  It is impossible to successfully argue otherwise. The odds are mathematically irrefutable.  Every day, month, year you carry more debt than you have cash to pay off, you're just spinning that revolver debt-cylinder and pulling the trigger hoping it's not the one containing the bullet!  I don't know about you, but I'm no fan of living under a cloud of risk every day of my life.

2) Debt is expensive

Let's assume that your one of the few who keep enough money stashed away in a safe place and can pay all your debts off in one fell swoop.  As a debtor you must still pay for the privilege of borrowing someone else's money.  That privilege can get very expensive.  I won't even bother with the most expensive interest like revolving charge accounts or credit cards.   Let's just take a common FHA mortgage to illustrate the point. 

For example: If you think you're only paying 4.5% for the $200,000 loan (after 20% down) you've mortgaged, think again.  Over the course of your thirty-year amortized mortgage, you are paying $364,809.54. The interest amounts to $164,809.54. That's expensive! But it get's worse...

If you put less than 20% down for an FHA loan (many typically put the minimum 3.5% down), you will pay for Mortgage Payment Insurance (MIP) amounting to an additional 1.75% up front but usually rolled into the mortgage and an additional MIP of 1.35% FOR THE LIFE OF THE LOAN. That loan is getting expensive.

How much rent are you paying each month to borrow someone else's money?  Wouldn't it be better to keep that money-rental-fee for yourself, stockpiled and stashed away for an inevitable opportunity?

3) Oh, but mortgage debt and school loans are "Good Debt", right?

Good Debt vs. Bad Debt is a misnomer.  It should more appropriately be termed "tolerable vs. intolerable debt".  Yes, your low-interest mortgage and student loan debt may include certain tangible benefits. But that doesn't make it "good debt". What's good about debt? Try telling a person diagnosed with Thyroid Cancer, "Oh, well, if you have to have cancer, that's one of the better ones to have". Oh, sure, they may nod in agreement and smile, but they're secretly wanting to slap you in your ignorant face.  There's nothing inherently good about any form of cancer. Let's call it like it is, a frightening, potentially life-threatening disease.  There's NOTHING GOOD about it! 

I'm not telling you that you should NEVER, under ANY circumstances get a mortgage, nor am I saying you should NEVER borrow money to get an education.  If you feel you must do either, then at least consider the less expensive options: (Like buying a house well below your means and getting an education that doesn't require an expensive out-of-state university with twenty years of student loan payments.

It's simply more tolerable than, say, high interest revolving credit card debt.  But not matter how "good" it appears, the entity who loaned you the money has a lien on your possession--which often serves as collateral--amounting to a lien on your life.  He owns a portion of you and you cannot easily extract yourself from his grasp without pain.   Nothing "good" about that.

You may escape the fate of those who've fallen due to unforeseen circumstances in their lives, but in the end you still played a dangerous game of Financial Russian Roulette.  You just never know in which chamber that fateful bullet lies.

4) Debt limits freedom

It's like a ball and chain attached to the ankle of a sprinter.  Your mobility in life is severely limited. Want to move yourself or the family to another area?  Change jobs? You MUST be able to find the right job which will pay the right amount of money to cover not just life's basic necessities, but also enough to service the debt load you've accumulated.  The greater that load, the heavier the ball, the stronger the chain and the more limited your life choices become.

5) Debt creates anxiety

Why worry about whether there's a slow-down at work or in the economy at large?  Why worry about who the next boss is going to be and whether he'll like you or not?  Or whether she's an absolute lunatic bent on making your life a perpetual panic-attack?  A lack of debt gives you the freedom to tell people you're just not going to put up with the crap! 

Let me illustrate: Just a few days ago we got a belligerent call from a client whom we've faithfully and conscientiously serviced for three years. In fact, the location went up for bid a few months ago and we were awarded a new three-year contract with a nice increase.  A new manager came in (the third in three years).  He was rude, unreasonable and threatened to cancel our contract if we didn't accommodate his every unreasonable demand. This is the kind of phone call that keeps many a business owner awake at night worrying.  Not us.

What did we do?  Since our company is debt-free, and our household is consumer debt free (House paid off, cars paid off, most rental real estate is paid off), I called him back and simply told him we were done with them and to get another company to service his facility. He was flabbergasted! Twice during that conversation he said in all his years he's never had a vendor quit him.  I doubt he's had many debt-free vendors during that time who simply didn't have to put up with his crap.  Obviously he's been accustomed to having vendors and employees kowtow to him and have no choice but to put up with what ever crap he decided to dish out.  Not us! I've fired several unreasonable, belligerent clients over the years.  Even though it was a lucrative contract, we just didn't have to put up with him. We fired our client and moved on.  Easy! Not for a minute did we stress over how we're going to make up for that lost client's income. Being debt-free gave us options...stress-free options.  How liberating is that?  Debt-free essentially equates to anxiety-free.

On the other hand, don't misunderstand me.  I'm not telling the whole world not to use debt responsibly.  It can be a powerful leveraging tool toward greater financial success. However, let's not call something so potentially destructive, good.  A knife can be useful and practical, but it's not without risks.  You could easily drop it and pin your foot to the ground with it, or cut your finger while chopping vegetables. Those risks are not good, they are at best, tolerable. Likewise, all debt carries risks, much of the time it is expensive, often limits personal freedom and tends to create anxiety.  Instead of trying to distinguish between good debt vs. bad debt, we should recognize it for what it is: Tolerable debt vs. intolerable debt.   At least we should fully understand and appreciate the risks of any debt, right?