In contrast to last week’s post about doing nothing, this week I’m going to urge you to take immediate action. Built up debt should cause you to act like your house is on fire. Like Mr. Money Mustache, I agree that debt is an effing emergency. Once you wake up to this fact—something I didn’t do until accumulating over $200k in student loan debt—you need to act now!
Almost no one treats their debt this way, however. Instead, they lease cars, live in the most expensive part of town possible, shower themselves with little luxuries everyday—dinners, movies on demand, $5 coffees, happy hours. Then they shower themselves with big luxuries several times a year to congratulate themselves for working so hard and being so successful: trips to Disneyland with the kids, cruises, ski trips, etc. Meanwhile, they make the “minimum” payments on their student loans and credit cards.
Debt Is An Emergency!
WTF?!? Every time you buy yourself a small or large luxury—or anything else for that matter—while you have debt means you are paying extra money just to have that luxury. I like luxuries just as much as the next guy. But while I have debt, that means every month I’m paying roughly $700* in interest. That means any spending I do in a month while still paying interest on debt really costs whatever I spent PLUS SEVEN HUNDRED DOLLARS. If I only buy a latte once a month as my one little luxury, the correct way to think about that latte is it costs $705. Only when I’m out of debt will the latte actually cost $5. And when I have no debt, I can probably afford a $5 latte. But until then, there is no freaking way I am spending $705 on a latte. Instead, I’m focusing on putting that $705 back in my pocket by paying off my debt as fast as possible.
But not only is the true cost of purchasing anything dramatically higher while paying interest on debt, it also causes catastrophic harm to present and future earnings. Agreeing to be in debt is like agreeing to lock away future earnings at a loss. Take whatever your interest rate is on a loan. That is your agreed loss on your money. So, say you have a credit card balance of $8,000 at a 12.99% interest rate. If you make interest only payments, you’ve committed yourself to losing $1,039 per year forever. Because credit card companies are in the business of maxing out the amount of interest you’re paying, they’re happy to set up your minimums so you’ll be paying interest for a decade or more even on very small balances. Keeping that balance means you’ve essentially permanently reduced your annual income by that amount.
It gets worse. Committing a significant portion of your income to a loss also irretrievably reduces your potential investment earnings and ability to retire when you want. So, say for example that Joe Blow never spent that $8,000 on a credit card and instead invested it in a low-cost index fund and did nothing with it for 30 years and achieved a 7% compounded return on his money. Guess what? Now he has $60,898.04 in the bank!
But that’s not what he did. He spent that money on froo froo crap that he can’t even remember now, and chose to make $100/month minimum payments for 17 years until it was finally paid off. The total amount he paid for debt service now tops $20,141.83. And what does he have to show for that $20,141.83? Nada. Zilch. He has only a $12,141.83 loss for the money he “invested” in his little luxuries.
Now suppose Joe Blow just happened to have another $8,000 at this point and decides to try and make up for those losses by investing that money for the next 14 years and achieves the same rate of return. He ends up with only $19,278.76 total, or what I’ll count as an $11,278.76 recovery of the earlier losses. After 30 years, Joe Blow still has not recouped the whole $12,141.83 he paid in interest on his credit cards. HE’S NOT EVEN BACK TO SQUARE ONE YET!
But recouping the loss is the wrong way to look at it. Joe Blow is really $69,783.04 poorer than if he hadn’t had the debt at all because he missed out on 30 full years of compounded investment returns. Those are real dollars Joe Blow won’t have—ever. And as you can see, the gap only widens as time goes on. And this is how we need to think about debt. We aren’t just losing the money we pay to interest, we are forever forgoing significant income.
Minimizing the time you are paying debt is therefore critical to maximizing the amount of money you have available to you during your lifespan. The shorter you’re stuck paying debt, the sooner you can unlock your money and have it start working for you instead of a lender.
Sure you could continue to “hack away” at your debt, or “work” on it, paying a little extra here and there. But that is just the wrong mindset. Debt is quietly robbing you of tens of thousands of dollars RIGHT NOW! It is burning your house down! SIRENS ARE BLARING, RED LIGHTS ARE FLASHING, THIS IS AN EMERGENCY! TAKE ACTION! Discretionary spending on all but the most basic needs must stop. Spray that extra money on loans as soon as possible LIKE A FIRE HOSE! Laugh at stores when they tell you to “save” money by spending. Get a second job or a side hustle. Go to the library instead of buying books and music. Ditch your ridiculously overpriced cell phone plan. Refinance your student loans. Reduce your housing costs. Sell your debt mobile and take public transit or start biking. Practice seeing abundance everywhere.
Remember: every single dollar of debt knocked out creates more money for you to knock out more debt. And the same strategy works for rapidly accumulating significant sums of money for financial independence. Practicing frugality pays no matter what financial stage you’re in.
What are you doing to accelerate your debt repayments? Please share in the comments!