Sep 082016
 

The Debt Free Fallacy

The mainstream concept of debt creates unnecessary anxiety for people. Innocent consumers are made to believe that if they have $2,000 of credit card debt at 18% interest rate then that’s somehow a terrible thing and paying this off should be their first financial priority. But that’s a load of baloney, 😛 because we all know that paying for things like food is more important.

But let’s say they made some sacrifices to quickly pay off this $2,000 credit card balance. “What a big relief!” they tell themselves. “I’m finally debt free. It feels like a great weight has been lifted off my shoulders.”

But has it really? I’m all for celebrating financial achievements but let’s put things into perspective. That $2,000 of debt was only costing them $30 per month in interest. That’s less than 1% of most household budgets. It’s really just a drop in the bucket.

So yes they are debt free. But they don’t realize that they had to give up $2,000 of hard earned money in order to pay for their “debt free” privilege. That money could have been used for a wonderful vacation to Maui instead of paying back the loan. If they cut their internet or cell phone bills by $40 a month, then that would be more beneficial financially speaking than paying off their credit card balance.

16-09-grind-gears-debt-free-bad-goal-meme

What’s so great about being debt free anyway? Even after they pay off their $2,000 consumer debt they’re still on the hook for everything else in life. It’s not like the other 99% of household spending magically goes away because they no longer have any more debt payments. There would be almost no difference in how they live now compared to when they still owed $2,000. In fact, having reasonable amounts of debt is actually advantageous because it would help build their credit history.

Obviously borrowers should pay down their debt when they have excess money that isn’t being used for anything else that’s more important. But making personal sacrifices and not allowing themselves to enjoy life because they want the feeling of being “debt free” will actually cost them more in valuable life experiences than the small amount of short term interest money they save. I don’t understand why some consumers are in such a rush to be debt free. What are we even suppose to say to people who become debt free? “Oh. You’ve finally gotten your net worth to zero! Congratulations!” 😆 

Facing Reality

And what does it say about their creativity when the most useful way they can think of to use their money is to reduce debt? Maybe they think they’re saving money by aggressively making extra payments on their mortgage. But mortgage interest rates are sub 3% today. If they find nothing else is more rewarding than reducing their mortgage balance, then that means they don’t have any new desires in life that’s worth more to them than 3% a year. 🙁 My MBA friend did a detailed analysis on this dilemma; is it better to save and invest or to reduce debt? In the end she also concluded that investing leads to a better outcome than paying down the mortgage.

Nobody can live off of being debt free. So out of all the possible financial goals people can set for themselves including earning more income, learning to invest, saving for retirement, becoming financially independent, etc., becoming debt free is probably the most unimaginative and unambitious goal out there.

I’m not saying being debt free is bad. I just think there’s better things we can do with our time than chasing after the same financial status as babies and homeless people.😔

[Edit, Sept 11/16. Mike from the comments section observed that the original article is off, so here’s my attempt to elaborate my point.]

If all other factors are equal I would rather be debt free than owe someone else money. But there are many legitimate reasons for someone to use consumer debt because they would get more utility from the loan than the cost of borrowing. Booking a last minute flight on a credit card to attend a funeral because a relative unexpectedly died can be one example. The debt can be dealt with after, but the funeral is time sensitive.

It’s not right for me to tell someone to not attend the funeral to avoid the debt since they weren’t even close to the person who died. But it is just as wrong for me to persuade them to go. The person has to make the choice for him or herself. Similarly if someone thinks paying off the mortgage is more important than investing, or that no positive life experience or profit can be gained that’s worth more than carrying an 18% credit card balance then their actions should align with their honest goals and values.

People who live in retirement homes often regret not spending more quality time with loved ones, not traveling more when they were young, and not letting themselves be happy. But no research has shown them express any regrets about going into too much debt, or not being debt free sooner. I think it would be fair to say that it might be possible to use consumer debt in a controlled way to help give our lives more meaning, more fun, more experiences, and more memories. 🙂

I want to get people to think about money from different perspectives so it’s less likely they will fall into traps of narrow thinking like giving irrational labels to debts. Not all credit card is bad, and not all mortgage debt is good. I’ve borrowed credit card for 1.9% interest rate and had mortgage debt at over 3.5%. I don’t want people to miss opportunities because they’re too focused on being debt free, and not look at the bigger picture.

[/Edit]

__________________________________
Random Useless Fact:

Americans spend $70 billion on lottery tickets each year. That’s more than they spend on sports tickets, books, and movie tickets combined.

16-09-lottery-winner-finds-love

Wow. What a coincidence. 😂

 

Leave a Reply

32 Comments on "Why Becoming Debt Free is a Terrible Goal"

Notify of
avatar
Vanessa
Guest

😀 I was reading that analysis this morning and thought of you. Leverage worked out well for you but others might not do the research needed to have the same results. Debt can be very dangerous if not properly managed.

beth
Guest
beth

Debt free is my goal. It will help me sleep better at night and if I didn’t have debt ($22k on a Heloc) I could whether any financial storm because my expenses would then be very small. If I had no debt and lost my job I could maintain my current life style while working part time at Mcdonald’s.

I balance savings and debt payment. In January and February, when oil stocks were down, I did more investing and less debt repayment. This month most of the stocks I am interested in are riding too high and so I am paying more debt.

My debt is the remainder of the mortgage on my house, a car I financed and some work retraining I had to do to get myself in to a higher wage class. I have added to it to buy a great stock a few times in 2015 and early 2016 but I have stopped doing that because I need the debt to be gone so I don’t worry. It will be Christmas 2018 before I see the end of debt.

Edan
Guest
Edan

I would like to pay off my mortgage early because of the reduction it would mean to my fixed expenses. It will free up significant money that I can use to invest, or it will allow me to work part time and still cover all my expenses with income from my investments. I still invest significant amounts of money each month.

I understand your point, and I don’t think debt free should be the ultimate goal. Debt is an extremely useful tool. I think it needs to be in perspective. I know it’s not “cool” to pay down your mortgage when interest rates are >3%, but I would like to have a small mortgage if rates don’t stay this low in the future.

Yetisaurus
Guest
Yeah, I gotta say I completely disagree with you. Consumer debt at 18% interest should be wiped out before you spend money investing, and it should absolutely be paid off before you spend money taking vacations. To be honest, when I read the line about them taking a Maui vacation instead of paying off the loan, I thought you were trolling all of us. But it sounds like you’re being serious. Even if the debt was only costing them $30 per month in interest, that’s still $360 a year that they’re losing for no reason at all. If they paid off the debt, that $360 could buy them a trip to Maui every 5.5 years just in saved interest. I can see the argument that paying off a mortgage early, when it has a very low interest rate, might not be the best idea. Investments might get a higher rate of return than the mortgage. (MIGHT. Not guaranteed.) But a credit card with 18% interest? You’d be very hard-pressed to beat that number investing. Cash on cash return with a low down payment rental property in a high-cash-flow area, maybe. But even that’s not smart if you have consumer debt… Read more »
Financial Canadian
Guest

You and I are similar in that leverage has had a huge effect on our financial success. 🙂

DiviCent
Guest

I would love to see your MBA friend who can show me an Investment that is greater than a 18% visa debt. Leverage can make you very rich or very poor. I can go borrow a 100g and dump it on number 7 at the casino and become rich but the risk to no winning is great.

In our consumer driven economy being in debt is tantamount to being a slave.

I paid off 100% of my debt including my house before I hit 35 and will probably end up saving over 50 grand this year to buy stocks.

I can’t explain in words how awesome it is to know I don’t owe any company anything.

Debt to me is like jail. Some people in jail might like it. Not I!

Ryan
Guest
Ryan

That is a terrible example. There is no investment vehicle that will earn you the same kind of interest rate as credit card risk-free. Paying off credit card debt is sound financial management. If you really need to borrow, there are alternatives. Paying only the interest only so that you can take a “much-needed” vacation is bad financial management. There are good debts and bad debts. Credit card debt is the worst debt.

ChrisCD
Guest
Did I sleep to long and it is suddenly April Fool’s?!? As others have pointed out, unless you have an investment that that can return greater than 18%, you should pay down the debt. Most people have a lot more than $2000 at 18% of interest, btw. If you don’t leave within your means, the debt may be $2000 this month, but then $4000 next month. I admit that you have leveraged well, but you aren’t borrowing at 18%. I’m sorry you are way off today. Last year, we put a lot of $ on credit cards for some great life experiences. My income the year before had been higher so I didn’t expect to have a problem paying it off. Guess what? Sales didn’t end up being as high, debts could not be paid off right away. No we are working our way out of the hole. Memories are great, but they are much better when you find creative ways to fit them into your budget or put them off until you can save up for them. Then you will also enjoy them much more because you won’t be worrying about how you are going to pay for them… Read more »
Anon
Guest
Anon
“$2,000 of credit card debt…So yes they are debt free. But they don’t realize that they had to give up $2,000 of hard earned money in order to pay for their “debt free” privilege.” Wow. Do you proof-read your material before putting it out on the internet? Do you understand how debt works? They already gave up that $2,000 when they put it on the credit card. By using a credit card all they did was pull future production (earnings) into the present. The cost of interest is the cost of that time shift. By repaying the debt they are re-establishing the production equilibrium. “That $2,000 of debt was only costing them $30 per month in interest. That’s less than 1% of most household budgets. It’s really just a drop in the bucket.” If I buy a TV for $2,000 with a credit card, the next month that same TV has now cost me $2,030. Finally taking…oh INFINITY years to pay for that TV (at $30/month) and costing well over $10,000 — or more than 500% than not paying off that credit card debt (or paying cash at time of purchase). Even if the payments were doubled, it would still… Read more »
Finance Journey
Guest

Good argument Liquid as usual,

I used debts to accumulate assets, especially dividend stocks. But, I wouldn’t carry debts with 18% interest rate. I know you discussed the worst case, but many readers will disagree with that.

I have all types of types of debts including credit cards, mortgage, margin, line of credit, student loans and HELOC. The highest rate I pay is for my student load at 5.20% rate.

Adam
Guest
Adam

Careful, now, Freedom.

I only comment because I enjoy your posts and wish you longevity and success.

You must not break the cardinal rule of communicating: forgetting your audience.
Who reads your stuff? Is it entitled spenders or financial buffs who want to learn and better themselves?

Debt is not only a number. It is a mindset. When we spend to delay gratification through purchasing assets, we are taking care of our future. When we spend today because we want to take a trip because we feel we deserve it and are entitled, we are taking care of our present selves only.

Of course, you know this. You’ve made sacrifices to better your financial self. This post, however, seems like it was written by a guest blogger who just needs a break from all the investing stuff.

The Asian Pear
Guest

To be fair though, most people are in debt. Half of Canadians live pay cheque to pay cheque. I don’t even want to know the number that are in debt. So when you are debt free, it is to be celebrated. But then as you have said, there’s other mountains to climb. Other bigger goals to attain. (And the reality is to make money sometimes, you need to take on more debt and invest. Sometimes it works out. Sometimes not.)

Mike
Guest
Mike

I agree with a number of the current comments, Adam’s especially resonated with me. As a regular follower of your blog, this article didn’t feel like the same writer. Your comments in reply to feedback provide some better context as to what you were trying to construe and some of the supporting thinking but I think the current article is off. To be honest I would have to say I lost some respect for this blog with this post.

I just hope future readers read the comments and replies to get a more wholesome view and context.

trackback

[…] things off with Liquid Independence, who wrote a so-called “rant” about how being debt free isn’t everything. While he picked a terrible example of somebody with credit card debt at 18% interest, the rest of […]

Money Beagle
Guest

I’ve always looked at being debt free as one step of a much longer journey toward financial freedom. The two big things are to, one, understand this perspective and set goals accordingly, and two, make sure that when you do achieve debt freedom, that you make sure to have a plan to stay out of debt so you don’t get right back in the hole.

Matt
Guest
Matt

This article can serve a use. Peak Debt indication.

When personal finance bloggers start advocating that credit card debt is no big deal and to just “live in the moment” – we have hit peak debt, folks.

The level of insanity out there in regards to what is best for your finances is officially insane.

Invest accordingly.

Yvette
Guest
Yvette

We have worked for many years to be debt free. Lots of trials and struggles. With persistence we are totally debt free. Even our small farm is totally ours. Best decision we ever made. When in debt, we struggled to pay our monthly expenditures. We had to pay all through the month….and then couldn’t pay everything. Now, we pay everything on the first of the month……rest of the month’s income is put into savings, trips…..could even be Maui, etc. if major expenses come up, we have the finances. Best decision for us to be debt free! We have NO inclination to get in debt ever again.

wpDiscuz