Americans should immediately stop borrowing money in the form of credit cards, home loans, vehicle loans, and retail store credit. Just credit card debt alone has reached 915 billion in the U.S. currently. Not using credit is an unpopular idea. It’s unpopular because our banker controlled culture has convinced us that using credit is not only necessary, but should be relished. Our culture hasn’t always been convinced that borrowing money was such a great idea. In the first half of our country’s history, credit was not available as it is today. Conventional wisdom at that time promoted savings first – and then purchases.
Before we get into the bulk of the article I would like to take a moment to disprove the most popular myth about using credit. Here’s the example that I normally read:
“If you can put $8,000 into a mutual fund earning 14% (instead of paying $8,000 cash for the car), and have a car loan which has an interest rate of 6%, you’d be stupid not to finance the car.” The idea is that you make a little money in the long run due to the difference in interest rates (in this case 8% difference).
There are two reasons why this is not an accurate statement. First of all, when you finance a car you will pay a higher selling price for the car. For example, when you finance a car for $10,000, I’ll bet you my pinky finger that I could go out and buy the same year, make, and model for $8,500 or even $8,000. So by going the financing route you’ve already lost $1,500 to $2,000. People are almost always willing to compromise on the price if you have cash. This is especially true of car dealerships. Using financing encourages buyers to spend more than what they otherwise would.
Secondly, when you pay cash you now have an asset, which you could sell at any time and get your money back. The person financing has to first overcome negative equity, before any positive equity exists in a vehicle that won’t be his asset for 48 months. Meanwhile you’re now putting your cash into a mutual fund earning 14%, instead of earning 8% like the other guy (which is barely above inflation)!
Not to mention that Billy Bob who financed actually lost money by paying the financing. Allow me to make this clear. You saved money on the sale by paying cash, and you saved again by not paying the interest. Billy Bob paid a higher selling price for the car and paid interest. Who do think has more money at the end of the 48 months?
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What if credit didn’t exist?
This is an interesting question. Have you ever thought about it? Well, for starters your personal and national debt obligations wouldn’t exist (we’ll discuss the national debt owed later on). If you wanted to buy something you would simply save money up front and then make a purchase. In discussing this premise with a friend of mine he asked “but how can you buy a car if you don’t have any money?” One could apply this same question to houses, land, or any tangible item. The answer is quite simple. You would have to save the money first and then buy a car. Ride a bike for 6 months and save the cash. People do this every day. If you start your purchasing lifestyle in debt, then chances are that you’ll remain there – because you’ll never get out of debt.
If credit didn’t exist individuals would save up front and then buy. This would affect our purchasing decisions. Watching your savings exit the hard earned account for purchases would encourage you to save more money. Instead of buying a new car you would most likely buy used. Bargains would be sought after. So not only are you not using credit, but money is being saved twice since you’re looking for the deals. Using credit encourages shoppers to buy new, highly priced retail merchandise.
Let’s use the example of buying a vehicle again. Perhaps you want a nice vehicle but don’t have any cash on hand. Most people are in this situation, but let’s look at it a different way. Ride the bicycle and save $400.00 per month. In six months that would give you $2,400. A great ride can’t be bought for that, but you can purchase something that would transport you from point A to point B. Since credit isn’t being used you are looking for the most car for your money.
By shopping around one can easily get a vehicle retail priced at $3,500 for the $2,400 you have in cash. I know because that’s the way I buy cars. So, now you are driving a vehicle that you purchased for $2,400. Keep saving the $400 per month. In six more months you will have $2,400 more in cash and a vehicle worth at least what you paid for it. Now sell your car for $2,500 and take your $4,900 cash and buy a newer vehicle with less miles than the old one. Last year I bought a five year old GMC Sonoma with 47,000 miles for $5,000. The truck looked and ran like new. Now I have a vehicle that will last me 4 or 5 years, and I only saved for twelve months. You can apply this same method to buying houses and land. Start training yourself to save and then buy.
Avoiding loans saves lots of money
If you refuse to borrow money, hundreds of thousands of dollars will be saved over the course of your life time. Most people will finance a car for 60 months. Currently the average car loan is probably close to $30,000. For this discussion we’ll keep it at a conservative $20,000 price tag. We’ll assume the interest rate is 6% for 60 months. The total amount paid in interest over the course of the loan is $3,199. If you buy eight new vehicles over the course of your life, that’s just over $25,000. And keep in mind that you bought a lower end car. Of course this discussion assumes that inflation is null (if only)! You can download the spreadsheet that I use to compare loans by clicking here. This spreadsheet uses microsoft excel and allows you to compare four loans at once. It’s free, contains no adware or spyware, and comes courtesy from my friend Jeff at carbuyingtips.com.
Financing a house is costly. If you finance a $250,000 valued home for 30 years, at a fixed interest rate of 8% – you pay $410,000 in interest alone! I could build four small houses for that! That much money could buy 10 brand new Toyota’s straight off the lot, making the salesmans month. This is $410,000 that could have been put towards retirement or college savings for your children.
Paying with cash encourages you to find bargains
When it comes to using credit cards or seeking a car loan, most people are buying new. When buying new from a retail establishment you end up paying top dollar for the purchase. And then, you pay even more as interest is tacked on to this high dollar asset. Essentially you are losing money twice. Paying cash encourages one to look for bargains. It’s just a matter of human nature because you’re watching your savings leave the confines of your precious treasure chest. For some reason this seems to have a restrictive psychological effect on my purchasing habits.
The philosophy of freedom
Something should be said about borrowing money and freedom. When you are in debt to a creditor, obligations must be satisfied or negative consequences will ensue. The more money you owe – the stronger the burden of debt weighs on your mind. It’s the loss of your crops come harvest time, the sweat of your brow, the hard work of your very existence - must be handed over to someone else.
When you owe other people money you are not free. Your life and earnings are indebted to the creditor. I look at my own life as proof. My savings are non-existent and I lack the money to go out and spend recreationally. My debts are too high. All of my debts combined are equal to my annual income. One thing is for sure, I can feel the weight of my debt sitting on my shoulders every minute of every day. There’s no point in saving money until I pay off this high interest debt.
A friend said the other day that debt seemed smart as long as you have more in assets than you do in debt. Well this sounds like a good idea, but what’s the negative side to this banker’s fantasy? What if you become permanently disabled? Could you still afford to pay your bills – or would you have to immediately sell off assets to pay your debt, and therefore be left with very little? The advantage of having no debt is that all of your assets are paid for. So when bad times come along (and they will), you’ll be able to manage them with ease. Not to mention all the money one loses by paying interest.
My room mate had $4,000 in credit card debt, but $10,000 in mutual funds. The mutual funds earn 9% interest while the credit card debt costs 15% interest. So I asked him “Would you take out $4,000 as a cash advance from your credit card to purchase $4,000 in mutual fund assets?” His answer was a firm “NO”! I explained to him that by having the credit card debt in contrast to his mutual fund assets, he was in fact accomplishing this very act. The correct answer is to rid one’s self of needless debt. It steals precious treasure from your own life while benefiting others whom haven’t earned it. Ridding one’s self of debt leads to personal economic freedom and the financial security of knowing that one’s assets are paid for.
Many people like me have to think about the financial consequences of not paying their debt before we make any spending decision. I am a prisoner to debt, a slave to personal finances. My goal is to pay off all debts as fast as possible. I’m not financially free until the last cent owed to my creditors is fully satisfied.
Our National Debt obligations
Our U.S. Government borrows money from private banks and foreign countries. Currently our National Debt is 9.2 trillion. That means if America wants to pay off all the debt we owe tomorrow – all 305,000 legal citizens (children included), would have to pay $30,321 and some change. The National Debt has increased over 3 trillion dollars during the George W. Bush Administration.
This is money that will have to be repaid. Where do you think they are going to get the money? That’s right – they get the money by taxing the hell out of working people. Currently the Government (local, state, federal) takes approximately 40% of a person’s earned income.
How can you afford interest when you’re missing 40% of your income? If you can give me a logical explanation, then by all means, please do.
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