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Avoid the Pitfalls of Permanent Debt

01.28.2013 by Kevin Mercadante //

When we first get into debt most of us have the best of intentions. The debt we’re taking on is only temporary, right? Once this credit card, car or house is paid off I’ll never borrow money again! That sounds good – but do we really mean it?

Remember: debt is deceptive. It buys us what we want now and the payments are so easy that we get “settled in.” We no longer think about paying the loans off, just how we’ll manage the payments. At this point debt becomes permanent. It doesn’t matter that credit cards are revolving arrangements or that car loans will be paid off in a few short years. You’ll always have debt of one kind or another – so you stop fighting against it.

Permanent debt in the making

When you reach the point where you’re comfortable with debt – and most people do – your debt becomes permanent. The lenders and the loans may change from time to time, but you’ll always have the debt.

Here are three reasons you’re in perpetual debt:

New car every 5 years. One of the biggest causes of permanent debt is buying a new car every five years or less. By doing this you always have a car payment. Sure, it’s nice to have a new car – less repairs and maintenance, latest safety features and all – but it’s a pattern that keeps you forever in debt. Maybe you always pay off the debt on each car, but as soon as it’s paid off you take out another loan to buy the next car.  (Learn how to stop financing vehicles.)

Perpetual mortgage refinancing. This one can be a tough call for a lot of people. If you’ve been refinancing every few years to take advantage of what seem to be ever lower interest rates, it really can seem like the right thing to do. But along the way, it’s typical to take some cash out (increasing the loan balance) or recasting the mortgage back to its original term. If each time you refinance, you recast a 25 or 27 year term back to 30, you’ll never pay off your mortgage. Many people do this and in the process create a perpetual mortgage for themselves. (Maybe you should rent instead and save for a house.)

Once a Visa, always a Visa. Credit cards take the top prize as the most stealthy of all debt – their marketing departments are full of geniuses. You start out borrowing a small amount – fully intending to pay it off next month – but the another “emergency” expense hits and the revolving feature takes over. Each month you’re borrowing a little bit more that makes the balance so large that paying it off becomes more of a wish than reality. You begin to resign yourself to the fact that you’ll always have credit card debt. (Learn how to pay off credit card debt.)

Debt is NOT your friend

Ask anyone who’s been through a foreclosure or bankruptcy – or who has been hounded by collection agents about one or more debts – and they will tell you this:

“Debt is only ‘friendly’ when you can afford to pay it. When you can’t, it becomes one of your worst enemies.”

The best way to avoid this outcome is by not being so friendly with your debt, especially when you can’t afford to pay it. We should never get comfortable with a debt, any debt, including a mortgage.

Debt increases your cost of living, cuts into your savings, and compromises retirement planning and funding. That doesn’t sound very friendly at all.

All debt should be temporary

In fact, the worst aspect of debt is the potential to get comfortable with it. Once you do, your debts have won control of your financial life. The way to change this is by viewing your debt as temporary – which is what debt is supposed to be.

If you have an installment loan, like an auto loan, and it runs for five years, plan on paying it off in no more than five years. And when the loan is paid, don’t take that as a cue to buy a new car! Instead, keep making those payments but stash them in a savings fund and use em to purchase your next vehicle with cash.

Credit cards? The basic advice stands here; plan to pay the balance in full each month. Credit cards should never be treated as an extension of your paycheck, or as a way to pay for what you really can’t afford.

And as far mortgages, 30 years is long enough! It’s okay to refinance and take advantage of lower interest rates, just be sure you never extend the term of the loan – ever. In other words, if you have 25 years remaining on your 30 year loan, the refinanced term should be no more than 25 years. So if you bought your house in 2005, you’ll still pay the mortgage off by 2035.

The best way to deal with a debt problem is by never getting into it in the first place. Borrow only if you have to, and when you do, make sure that you pay your loans off in the term provided – or less.

*******

Categories // Debt Tags // loans, mindset, repayment

11 Ways We Dove into Debt and How We’re Digging Out

03.21.2012 by Matt Jabs //

It was not all that long ago that our ‘Debt Free’ Adventure was more like a ‘who cares how much debt we have’ adventure.  I suppose we were semi-responsible in that we never made ourselves house poor, nor did we ever go hog wild on gadgets or toys.  In fact, the reason we accumulated debt at all is simple… up until January of 2009 we never understood how powerful a prison of debt can be.

Now that we do understand the power of debt slavery, we avoid it like the plague.

Mindset of the chronically indebted

Before I get into specifics, it is important to touch on a few “thinking problems” we had that are commonly shared by those in deb, you have to change your mindset:

  1. We just didn’t care – By far the biggest personal finance problem for us was simply our lack of responsible money management.  If we would have taken control of our financial reigns from day one we would be in a much better position.  Oh well, since we can’t change the past we focus on doing the right thing going forward.
  2. Influenced by culture – One of the biggest reasons we slowly let ourselves get into debt was because we did not purpose to think for ourselves.  Rather than responsibly determining our purchases based on actual savings and income, we bought according to cultural norms.
  3. We make decent money – We figured because we were both college educated, working professionals that we should be able to have certain things.  Rather than responsibly determining our purchases based on actual savings and income, we presumed our income would always be there and leveraged against future income.
  4. We deserve nice things – Because we sacrificed and worked hard all the way through school, we felt as if we deserved to buy nice things the day we began earning rather than the day we had actually accumulated the savings.  Rather than responsibly determining our purchases based on actual savings and income, we felt as though we deserved nice things before we actually earned those nice things.

Ways our debt accumulated

Here are a few specific ways our debt built up over the years:

  1. We ate out constantly – Before analyzing food costs we rarely planned or prepared meals in advance, instead we would just eat out whenever we felt like it.  Now we set a strict budget for groceries and dining out and are careful to stick to it every month.  Not only do we save thousands of dollars each year, but we have also lost around 60 combined pounds.
  2. We never used a budget – Rather than telling our money where to go, our money would just seem to vanish into thin air.  This always happened, regardless of how much money we made.  Now we give every dollar a job rather than wondering where it all goes… and boy does it feel great!
  3. Credit cards as an emergency fund – Rather than save money for emergencies, we chose to go into high interest debt each time we had an emergency.  Saving for emergencies was a personal finance fundamental we lacked in times past but have since adopted… and we feel much more secure because of it.
  4. I fell for the HDTV craze – I take full responsibility for all our financial irresponsibility… but this particular purchase deserves a special mention.  Against her better judgment, my wife gracefully went along with my decision to purchase a $2,000 television – bless her heart.  This was obviously a terribly unnecessary purchase decision on my part.  We had a 27″ television that worked perfectly fine, but for whatever reason I just had to have a fancy new boob tube.  I would sell it in a heartbeat if I weren’t sure to lose my tail on it… so we just keep it and plan on having it for a loooooooong time.  🙂
  5. Bank fees – Oh my word… I hate talking about this because it makes me feel like such a D-bag.  Before we started our debt free adventure it was not super uncommon for me to be hit with bank fees.  Both over-the-limit fees and late fees were things that ate up a good amount of our money over the years.  Never again I say… never again!  Next to responsible management of our money the best move we made to avoid bank fees was switching to Capital One 360 Bank – they treat us so much better than any bank in the past.
  6. Just swipe it – We used to just swipe our debit cards for everything with the only requirement being a positive balance in our checking account – and even that was ignored sometimes.  Now-a-days we use cash envelopes for our five most easily abused budget categories:  groceries, miscellaneous, dining out, entertainment, and clothing are all kept under tight reigns by limited amounts of cash each month.
  7. Alcoholic beverages – Rather than waiting until we were home to enjoy a beer or glass of wine for much cheaper, we would order drinks with dinner.  A lot of people talk about the latte factor, but I wonder if the less popular alcohol factor eats up just as much or more of the average American family budget.  Now-a-days if we want an occasional beer or glass of wine we just wait until we get home.

Of course there are other factors that contributed to the debt we battle so fervently today… but this list gives you a good idea of what not to do if you want to win with money.

Ways you got into debt

What are some specific things you have changed or need to change in order to avoid future debt and help dig your way out of existing debt?

photo by Joe Shlabotnik

Categories // Debt, Money Management Tags // Debt, emergency fund, mindset, save

Get Out Of Debt: Start Acting Wealthy

06.03.2010 by Matt Jabs //

Act wealthy to get out of debt

What?  Act wealthy to get out of debt?  Yes, precisely – and if you’ve misconstrued what I’ve said then you’re probably in debt for a very good reason, so read on.  🙂

How will acting wealthy get you out of debt?  Studies and experience in personal finance have learned me a very valuable lesson – if you want to get out of debt, you must put an end to frivolous spending – which is our basic definition of acting wealthy.  Remember, most wealthy people are well-to-do for a very good reason… Acting wealthy = no frivolous spending.

Consider the following example by JD Roth, my friend and author of Your Money:  The Missing Manual

In a recent article JD judges a friend who, despite a recent bankruptcy, continues to swim in the pool of bad financial choices.  Although JD’s frustration toward his friend was spot on, it was actually a side note of the article that caught my attention.

While pointing out the mote in his friends eye, JD does not fail to recognize the beam in his own – and the details of the beam was the inspiration for this article.

Get of out debt by acting like John M.

John M. is JD’s millionaire next door neighbor, and on a recent 10 day cruise to Alaska… well here, JD tells it best:

As I began to silently judge Michael’s choices (JD’s friend,) I thought of my recent trip to Alaska. I spent ten days on the boat with my neighbor, the “real millionaire next door“, and in those ten days I often felt like I was being judged.

  • Before the trip, I bought a $120 backpack at REI. My goal is to use this for much of my travel during the coming years. It fits in an overhead compartment, and is a great way to limit what I carry. John frowned when he saw the new pack and asked, “What’s wrong with a duffel bag from Goodwill?”
  • On the first day, Mac and I tore a paper towel in half, and we each used our half as a napkin for several days. Eventually my napkin became grimy and gross, so I went to tear off another half a paper towel. When John saw me, he scolded me and told me I ought to use a cloth towel instead.
  • Near the end of the trip, I threw a molding orange overboard. “I wish you hadn’t done that,” John said. “I could have cut out the bad part and eaten the rest.”
  • On the last day, I went to the bookstore in Sitka and bought a copy of Bruce Chatwin’s In Patagonia, which I’ve been wanting to read for a long time. (After our trip to France and Italy this year, Kris and I hope to save for a trip to Argentina and Chile in 2012 or 2013.) When John saw I’d bought a new book, he shook his head. “I’ve got a lot of perfectly good books here on board,” he said, indicating his library of old paperbacks.

Throughout the trip, I felt like I was under pressure to, well, be more frugal, to make the same choices John would make. And you know what? That pressure sucked. It felt awful. I didn’t like the feeling of being judged, especially by somebody I look up to.

Get out of debt by curtailing your spending

Can you tell what inspired me?  What did you think of JD’s neighbor?  He’s a millionaire yet he shops at Goodwill and eats the good parts of bad fruit.  That’s why he’s wealthy.  The majority of wealthy people spend far less frivolously than the majority of those enslaved by debt, and John is no exception.  Sure, as JD mentions, too much of a good thing can drive a patient man mad; but regardless, what John preaches is correct – and even if you don’t like it, it makes you think – and thinking is good.

Stop spending, cut your standard of living, start saving

Being wealthy is simple.  All you have to do is spend less than you earn and give generously.  As long as you sail that ship, how much you earn becomes nothing more than a variable in a personal finance equation that always ends up in the black.

Need some help? Follow JD’s lead and surround yourself with people who motivate you to succeed… even if they do annoy you every once in awhile.  🙂

Categories // Debt Tags // Debt, mindset, wealth

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