“DO NOT BORROW TO CONSUME, BORROW TO HAVE AN ASSET THAT PRODUCES” – Garrett Gunderson
There are a lot of people online today saying “debt free” should be your #1 goal.
That is so wrong.
On two levels.
One- do not let anyone- even yourself- tell you what you “should” or “should not” be doing. I cannot remember who said it first, but stop “shoulding” all over yourself!
Two- debt can be good or bad. Leveraging debt to your advantage is a good thing.
How so?
Let’s look at two scenarios:
1. You are getting married. Congratulations! So, you use your credit cards and borrow from your 401(K) so you can have your “perfect day”. Hey, you only get married once and it is the most important day of your life, so why not? Right? How can you put a price tag on that? Well, The Knot says the average wedding in the USA was $33,931 in 2018, so let’s go with that.
2. You decide it is time to give up apartment life and put down roots. So, you scrape together every spare penny and buy a house. You have $10,000 to put down on a $100,000 house, so you take out a loan for $90,000.
According to the “debt free” people, the person in scenario #2 is in big trouble. (S)he is $90,000 in debt and will spend 25-30 years paying off that debt unless something drastic is done.
But, person #2 now has an asset. Yes, this person will be paying PMI until the loan balance is less than 80% of the house’s value (which is not something you want to do), but assuming the house is maintained and nothing happens to drastically decrease the property value, its value as an asset will increase and its value as a liability will decrease as the loan is paid off.
Person #1 just has debt. Aside from the memories (which are priceless), there is nothing left from that day…or the honeymoon…except maybe a dress that would sell for a fraction of its original cost. And, surprisingly, it would take approximately 30 years to pay off making the minimum payment.
Now, let’s say Person #2 was even more debt savvy and purchased a multi-family house with 2-4 units. Not only would (s)he be able to buy more house, but the additional units would be paying for his or her unit AND there would be substantial tax benefits.
Person #2 would also be in a position to save some of the rents received to use toward purchasing a second rental building. Before (s)he knows it, those rentals are providing enough income that person #2 is no longer dependent on a 9-5 job to pay the bills.
There is an old saying “a door for every bill”. That is, one door (or rental unit or apartment) to pay for your auto loan, one door to pay for your degree, one door to pay for your annual vacation, and so on.
Just one word of advice: before buying rental properties, make sure you have done the research to know what you are getting into. Know the area, property values, and either be able to do the work yourself or have a team you can trust to do it for you. There is a nice margin, but it decreases quickly if you are ignorant or naive. The third scenario (where person #2 makes the leap from homeowner to landlord) is not for everyone. So, if you find you are attracted to scenario #2, but not #3, do not feel like #3 is something you “should” do. I am only including it as a way to maximize your debt leverage.
What are your thoughts? Which scenario sounds the most appealing to you?
