Debt – The Power to Build or Destroy

Posted On 7 January 2022

Last updated on April 7th, 2024

“Give me a lever long enough and a fulcrum on which to place it, and I shall move the world.” – Archimedes

Debt is simply a tool. In and of itself, it is neither good nor bad. It is the way that it is used that determine the results it produces. Debt is similar to fire – a tool that people can use to improve their lives, or it can cause pain and devastation. These two things – debt and fire – are simply tools.

With tools, the way to get the most use out of them is by being trained how to use them. Financial Education gives us the knowledge to use the debt tool safely and effectively.

Here in British Columbia, we can have huge wildfires in the summer. In the summer of 2017, our whole town was evacuated due to wildfires in the area. Since then, people in the area still tend to be alarmed if there is a wildfire in the area.

It is interesting to note that a lot of people heat with wood here. People also enjoy having campfires with friends and family. When fire is controlled, it is enjoyable. The same can be said for debt.

Debt Can Build Wealth

In the personal finance community, there is a lot of talk about the evils of debt. This financial tool called debt can do some amazing things to help us build wealth! How is this, you ask?

Debt is a form of leverage. If we add length to a wrench, we can apply more force to the nut we are trying to loosen. When we use debt, we add purchasing power to the money that we currently have.

Why is it that if debt can be so wonderful, it causes problems for so many people? The reason is that debt is not the problem, it is our thinking that is causing our problems. See, debt must be paid back. When debt is used to purchase something that increases in value, we build wealth. You can read more about my perspective on assets here.

Debt Can Destroy Wealth

The problem with debt is when it used without thought of repayment for purchases that decrease in value. Credit cards make this very easy – and so many people are never taught how to properly use credit.

When we eat at restaurants and spend money that is not in the budget, we can use a credit card. All it takes is a quick tap, PIN, or signature, and like magic we get what we want! When the bill comes in, the credit card company only asks for the minimum payment in hopes that you will pay them the maximum interest.

Add the interest we end up paying for things that we don’t need (or maybe we don’t even have them anymore!) to the debt, we pay a lot more for the same item. That interest then stresses our financial situation even more! It can be a trap that is hard to escape.

Secured vs. Unsecured

Let me briefly discuss the two types of debt. Secured debt is when there is something (collateral) that can be claimed by the lender if the debt is not repaid. The interest rate for secured debt is lower because of this collateral that is used as security for the loan.

Some examples of secured debt are mortgages and car loans. Should the debt not be repaid, and the loan is defaulted on, the lender can take that collateral and sell it to help repay the loan.

Unsecured debt is when money is borrowed and there is nothing to guarantee the repayment except the borrower’s promise to pay it back. Student debt falls into this category because most young people don’t have any assets to use as security for the loan.

Credit cards and personal lines of credit are also unsecured debt. These are known as revolving accounts since the debt is not a set amount, and they are convenient in that the borrower can borrow money without having to “get permission” from the lender. For example, a set of tires for the car can be paid for over a couple months.

Interest is the “cost of money”. Since unsecured debt is higher risk to the lender (and there is also the convenience factor) the interest rates are much higher. Keep in mind, that if you pay the money right back, there is no interest that you pay!

Education

If you want to go to school to get an education so you can earn a larger income, but don’t have the money to just pay for schooling in full, you can get a student loan. With the higher income, the debt should be able to be paid back as well as provide the person with a higher standard of living.

When I graduated high school, I was told that I should get a college degree. It didn’t matter what field the degree was in; any degree is good. I do not agree with that now. A degree is great if it will help you get where you want to go in life. Also, I must add the getting an education in a trade is no less valuable than a bachelor’s degree. Maybe it could even be more valuable!

There is something definitely wrong with the system when a person in their 20’s can get a diploma that cost them as much as a nice car, but they don’t get the car! This post is not about the cost of education, just debt.

Business

Businesses cost money to run. Starting a business costs even more! If you have an idea for a great business, but you don’t have all the money needed to start and run the business, you can get a business loan. As you make money with the business you can pay the loan back.

A business loan can also be taken out to expand or improve an existing business. The ability to invest in your business so you can earn more money is an excellent use of debt!

Financially, businesses have an advantage over people – businesses do not have wants, only needs. The numbers are written down and looked at logically. With our personal finances, emotions and wants can subtly creep in.

Consumer Debt

These wants can be a killer when they are financed with debt! Consumer debt is when the goods or services are not or cannot be resold. This is not a bad thing. We need to eat food in order to live. We need to burn fuel for heat and transportation.

The problem arises when we pay for these things on “ifcome”. Ifcome sounds like income, but when we are planning on the raise or some other hopeful source of money. “If it comes in, we’ll be ok!”

Hope is not a strategy. It may sound really good. The purchase is financed, and the bill does not even get to us for maybe a month. Often, it is months or years down the road that we discover the debt hole that we have been digging deeper.

If debt has become a problem, you can get out of that hole. I wrote about an effective method for getting out of consumer debt. The Snowball Debt Elimination is the strategy I recommend, and I have used it as well.

Use Debt as Part of Your Plan

Debt, like fire, is a wonderful tool that can make our lives infinitely better. When either of these are left unchecked, they lead to pain and loss. Tools allow us to accomplish things faster and easier. We should use them! And we also need to learn how to best use them.

I do not recommend going crazy with debt. It should be a part of your plan, though. A parting thought regarding debt is that just because it is available to you does not mean that you should use it. Think of debt like pizza – just because we can eat a whole pizza does not mean that we should eat the whole thing ourselves!