Are you using credit wisely?
Too many people use their money and credit to buy things that are worthless in a very short time.
Wealthy people use money and credit to buy things that will be worth more in the future than they are today.
Which are you?
Let’s look at three scenarios:
1. You are getting married. Congratulations! So, you save up $10,000 and use credit for the rest 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 $22,500 in 2021, down from $28,000 in 2019 and $33,931 in 2018, but still a major purchase for most people.
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.
The debt in scenario #1 is the kind of debt that will cost you much more than the $12,500 – 23,931 you borrowed. It could easily take you 20-30 years to pay off and will be causing you stress every month during that time period as the interest compounds.
The debt in scenario #2 will also take 20-30 years to pay off, but you will have an asset that you will be able to leverage or sell in the future. 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.
The person in scenario #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. Now, let’s say the person in scenario #2 was even more debt savvy and purchased a multi-family house with 2-4 units. In this third scenario, 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.
The person in scenario #3 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 one 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.
If you have spent too much on credit buying things that are not assets and are looking for a way to change your spending patterns, this is a module in the Money Mom Academy. DM me for more details.