We are all aware that America’s appetite for too much personal debt ran our economy into the ground recently. Since the great banking collapse of 2008 we have been bombarded with the message that taking on any type of debt is a downright bad idea. In fact, the very four letter word, D-E-B-T, now carries a stigma that stinks like rotten eggs. But as with any cycle of mainstream culture, our views towards debt may have deviated well past a fair trial. In fact, given the awful reputation that personal debt has these days, the jury is out on whether it could actually be an undervalued asset worthy of a second chance.
While taking on too much personal debt is generally considered toxic towards our financial well being, there are many cases where taking on debt is useful, sensible and can even be very rewarding. This blog challenges some of these negative preconceived notions towards debt and presents some positive reasoning behind spending decisions that help clarify the gray line between “Good Debt” and “Bad Debt.”
Debt may be considered good and beneficial when its use has the right motivational drivers behind it. Debt with a good purpose can help a small business grow and earn more money, it can improve a family’s quality of life or health, or it can secure one’s education or professional vocational skills. Debt is bad and strenuous when it has no constructive purpose. Bad debt is generally taken on for short-term gratification, carries little opportunity for gaining value in the long run, and often comes with ugly terms. Being able to differentiate between purpose driven debt and gratification driven debt is key to using debt as a tool for success, rather than falling through the trap doors.
Regardless of what type of spending we do, most of us will come to a crossroads where we decide whether a purchase is worth the obligation to pay it back. The more rational side of us will ask, “Do I really need this” and “is it really worthwhile?” and the more gratification driven side of us, might conclude, “I deserve this” or “It shouldn’t take me that long to pay off.” The following are specific drivers of debt that have a good motivation and honorable purpose, often aiming to enrich one’s overall circumstances or quality of life.
Family and the Hearth
Investing in the foundation and future of your family’s well being is a wonderful purpose for considering debt, as long as the terms of the loan are stable and well within budgeted means. One of the first major purchases a married couple makes together is investing in a home for their growing family, where a mortgage is often obtained to secure the property. Another big purchase families make together is a family car to transport children to and from school and activities. Accessing an auto loan to buy a reliable and safe vehicle can greatly improve convenience and mobility for the family.
Career and Your Business
Your business or job is one of your major sources of income, thus it is important that you invest money into maintaining it and growing it when possible. Taking out a loan to start or expand a business with the intention that you will be making more money than you will be paying for the loan is an example of debt driven by a sensible purpose. Sophisticated companies are constantly borrowing to grow and make strategic investments. These same principles apply to individuals and entrepreneurs with the experience and know-how to advance their careers and businesses.
Education and Learning
Most people take out a student loan to finance their college tuition. A higher education degree should result in more career opportunities and a higher income level down the road. Purchasing tickets to a conference to educate oneself on a certain topic or borrowing to enroll in a vocational training course are examples of debts that are used to help secure one’s professional standing and income. Also, investing in your child’s education and hobbies is another example of purpose driven debt with long lasting benefits.
Protection and Security
Insurance is a great example of a product that provides different types of protection and is generally financed to some degree. Different types of insurance plans provide protection for one’s family, income, car, life, and home. We often have the option of laying down a big up-front premium payment to cover such protection for multiple months or years in advance. Choosing the full premium payment is simply not realistic for many families, and so taking on a monthly payment obligation to support these protective products just makes sense, as long as the terms are reasonable.
Health and Wellness
One of the most important things to consider is your health and wellness. Gym memberships improve your quality of life. When people work out they feel good, they are more productive at work, and exercise may even improve their personal relationships. Also, taking on debt for medical solutions, such as a vital treatment for a loved ones health, is priceless. You can’t place a dollar sign on someone’s health or life!
Although this blog is meant to change your perspective on the dreaded four letter word D-E-B-T, its intention is not to encourage readers to falsely justify frivolous spending. Unless you have a large bank account with a lot of C-A-S-H you need to consider the motivations and drivers behind each purchase. The key message here is to remember that whether we are making short term or long term spending decisions, we need to evaluate the purpose behind the particular purchase we are making, and examine the future benefits of the bounty.
So, whether you are at the check out counter ready to whip out your credit card to purchase that new pair of leather shoes or you are at the bank ready to sign on that dotted line to purchase a new home, remember to ask yourself these questions, “What am I trying to accomplish by bringing on this debt?” “What purpose am I trying to achieve over the short term or long term with this debt?” and “Are the terms of the debt I am taking on sensible and conducive to enriching my overall financial plan?”
Harry Langenberg is the Co-founder and Managing Partner of Optima Tax Relief. He has over 10 years of financial services experience, including investment banking for technology-based firms at Merrill Lynch & Co. in San Francisco, CA.