Surfing And Your Financial Strategy
by Jason SteeleHave you ever tried surfing? I am not talking about your present activity, surfing the net, I am talking about actual surfing on ocean waves. Even if you haven’t, you should be able to appreciate the following analogy.
Staying Debt* Free Is Like Surfing A Wave
If you think about it, it is amazing that surfing even works. The surfer paddles in the direction of the wave, stands up, and somehow is able to stay in front of it, seemingly descending the wave while not actually moving. They make it seem effortless. When I tried it, the waves passed me by, as I struggle in vain to catch them.
Debt* is the same way. If you stay ahead of it, your financial management can seem effortless. I got a lot of grief from people who either don’t believe that you can stay out of debt*, or who feel that they are better of with their various debts. Many feel that their current needs take priority over their future needs. I will try to show how short sighted that is, and how staying out of debt* will vastly increase your spending power and financial security.
When You Stay In Debt*, You Forfeit Your Disposable Income
When you take on credit card debt, car loans, or other kinds of debt*, you are paying more for you purchases while reducing your future income. Imagine you are lucky enough to have a credit card that charges 13% APR, a very competitive rate these days. Lets say you charge $1,000 dollars today and you decide to pay $40 a month. According to Calculatorweb’s credit card interest calculator, you will pay off the balance in two and a half years, but you will also pay an additional $173 in interest, or just over four months worth of payments.
I am sure you already knew that, but actually it gets worse. Since you didn’t pay your bill in full and on time, interest starts accruing immediately on every new purchase you make. Even if you continue to pay off your new purchases, and pay down your debt, you are still incurring and paying for 15 to 50 days worth of interest on every purchase. The amount depends on when in your billing cycle the transaction occurred, but no matter how you do it, you are paying more than the price tag. Essentially, everything you buy from then on automatically costs more. This added cost then compounds your difficulty in paying off the original debt. Like a surfer who is struggling to catch a wave that has already past, it will be very difficult to catch up. Once you fail to pay off your balance in full, you will always be on the backside of the wave with your debt and interest making it harder and harder to catch up.
The same is true when you chose to finance a car. Cars are a necessary part of life for most people in this country. You should pay off your car as soon as possible. Next, take the money you would have put into a car payment, and save it for your next car. Save as long as necessary to get the car you want, but always pay for it in cash. The difference between the interest you will earn on your savings (not much) and the interest you will pay on a car loan (a lot) is enormous. Saving the interest every single month will increase your disposable income. In the long term, you will be driving a nicer car, even though you might have to drive your current car longer.
Increase Your Financial Security
If you have committed yourself to credit card payments and car loans, you now have to pay them every month, or you will increase your debt through late payment fees while damaging your credit score. A minor problem can quickly becomes a major economic disaster when you have already committed your future income to pay for past purchases. Being with out a job for a month or two can be a minor setback or a major problem, depending on your level of debt. Even short term injury or illness could be the trigger that cripples you financially.
Once you miss a payment, your credit score falls and your interest rates will go up as will your payments. These days, a poor credit score will also raise your auto insurance rates and will even hurt your ability to get a job! Like our surfer who missed the wave, you will become exhausted trying to catch up. You may even “drown” and have to declare bankruptcy.
Surf The Wave
Staying debt* free allows you to keep all of your after tax income, while reducing future obligations. Better yet, your credit card becomes your friend instead of your enemy. When you pay your credit card bills in full, and you are using your credit card only as a method of payment, you are able to chose a card based on it’s rewards rather than it’s interest rate. If every month you purchase only what you can afford to pay in full, and you will actually end up paying slightly less than the price tag because of your reward, rather than much, much more due to interest. You will even get free interest, as purchase are only paid for 15 to 50 days later when your statement is due. As time goes by you will end up with far more spending power than those who have credit card debt and car loans. You are also able to weather a financial crisis by temporarily reducing your monthly spending since you haven’t already committed your current income to both past expenditures and interest payments.
I have tried surfing in the ocean and I almost drowned. Fortunately, I have never dabbled in the riskier practice of incurring debt.*
Finally, The Asterisk
When I mention debt, I have included an asterisk. The debts that I think everyone should avoid are taxable, non appreciating debts such as credit cards, car loans, and payday loans. The only “good” debts out there are the ones that have tax-deductible interest and/or government subsidies, and are on appreciating assets. The only personal debts that are “good” are the mortgage on your primary residence and educational loans (business loans are a separate matter). The interest on a home loan is tax deductible, and your home is most likely an appreciating asset. Educational loans are often government subsidized and tax deductible. Student loans are also a great investment in an appreciating asset, yourself.