Debt

IOU 101 - by Suse Orman
from Oprah magazine July 2008

Debt is like cholesterol: there’s a good and a bad kind. Knowing the difference – and managing both wisely – is the key to financial well-being.

Good debt is money you borrow to purchase an asset, such as a home you can afford. History shows that home values generally rise in step with the inflation rate, so a mortgage is good debt. Student loans are, too, because they’re an investment in the future. Census data pegs the average lifetime earnings of a high school graduate at a million dollars below that of someone with a bachelor’s degree.

When it comes to good debt, borrow only what you can afford to repay now and in the future.

Bad debt is money you borrow to buy a depreciating asset or to fiancé a “Want” rather than a “need.” A car is a depreciating asset; from the day you drive it off the lot, it starts losing value. Credit card balances or a home equity line of credit that’s used to pay for indulgences – vacations, shopping, spa days – is bad debt.

Aim for zero bad debt. If you need a car, buy the least expensive one that meets your needs. You want a vehicle you can finance with a three-year loan; stretching it to four or five years is a sign you should be looking for something less expensive. The objective is to get the loan paid off and enjoy yours of debt-free driving. Leasing rarely makes sense. It’s just an excuse to get a new car every few years, and it keeps you perpetually in debt. Finally, if you have credit cards that charge a high interest rate on outstanding balances, look into transferring to a card that gives you a 12 month grace period of zero interest (search for one at cardtrak.com).

I agree with most of this – it is just COMMON SENSE! I feel most Americans have lost perspective (or maybe they never had any) of debt. People never used to live in debt the way most live in debt today.

I am VERY fortunate to have NO debt. I own my home and car. When I purchase a new car, I pay cash. I always pay cash or use a debit card. I live well below my means. This is just one more way I am unusual or not “normal.”

If a credit card is used, the balance should be paid off each month. The normal interest rate on a credit cart is outrageous, and those who carry balances on those credit cards are financial illiterates!

Ironically, my lifestyle of not incurring ANY debt is very unusual – maybe abnormal! It actually makes it sometimes difficult to get credit! Here are two ironic examples that happened to me.

Many years ago, when my wife and I went to get a mortgage for the house we were building, she was the one with the better credit. I owned my car, I had paid cash for the building lot, I had savings in the bank, and I had absolutely no debt or loans since I always paid cash for everything. She had almost no savings, college loans to pay off, a car loan, and was renting. Since I had no “established credit,” it was basically her credit that led to the approval of our mortgage application.

Another ironic example was an experience I had at Circuit City after my youngest son graduated from high school. We were purchasing two laptop computers – one for him to take to Penn State and one for me to use at home and to help him if he had a problem with his. I used my debit card to pay for the first computer. We had to go back the next day to pick up the second computer, and I tried to use my debit card again. Since the large amount from the first computer had been placed on the debit card the day before, the second purchase was denied. It was a weekend, and my bank couldn’t be contacted to approve the debit card purchase. When I informed the salesman that I don’t have credit cards, he suggested opening a Circuit City credit card to complete the transaction. I agreed since I would immediately pay off the charge so as to incur no interest. I filled out the application, and we waited a few minutes for approval. My application was denied. I spoke with a lady on the phone from the Circuit City credit department. She asked me about my other credit cards and loans and mortgages. I explained to her that I don’t use credit cards and have no loans or mortgages. Here I was in Circuit City, I owned two houses(mortgage free), three vehicles (loan free), had over $30,000 in regular savings and checking accounts, was working as a teacher at the same school district for over thirty years, was TOTALLY dept free, and didn’t qualify for a Circuit City credit card!

I think this is just another area in which our society has lost perspective. Most Americans, unfortunately, believe living in debt is normal. Media and culture promote consumerism so that debt is not only accepted, but expected!

I look at the people who are living in debt in "their" big houses and driving "their" expensive cars living the “good life.” They own NOTHING – their lenders do!