November 30, 2008

Part 9: The Problems Associated with Debt Accumulation

[Part 9 of 12 in a series on How to Turn Your Financial Goals into Reality.]

Personal indebtedness is at historic levels. American’s inclination to borrow money has been fueled by two decades of low interest rates. The typical household has 6.5 credit cards with an average balance of $8,000. We pay a larger percentage of our income on housing (33% according to Bureau of Labor Statistics) than at any point in our history.

Richard Young, founder of Young’s Research, describes the situation this way: “So many Americans are tapped out with ridiculous adjustable mortgages, bled-out home equity lines of credit, sizzling credit card balances, little if any money in the bank, and have no idea what retirement planning is all about. There is little steam left in the kettle.”

Not surprisingly, with increasing debt loads and many jobs moving overseas, personal bankruptcy is at an all time high. Just as it does with governments and corporations, indebtedness absorbs personal savings and crowds out productive investments.

Prosperous Living Without Debt

The rich ruleth over the poor, and the borrower is servant to the lender.
Proverbs 22:7

It may surprise you to learn that other societies outside of the United States are actually quite prosperous without being a slave to indebtedness. Citizens in some flourishing Asian countries, such as Japan and Singapore, save in excess of 25% of their income on average, as do most people in Switzerland. Compare that to the U.S. where the savings rate is near zero.

Contrary to popular belief in the financial community, prioritizing savings over consumption improves the individual’s standard of living. Taking on debt to meet life’s basic needs (or worse, its luxuries) provides only the illusion of prosperity.

Unfortunately, that illusion may rapidly disappear when either the nation’s economy or the individual’s financial situation fall upon hard times. During such events, a robust savings account would provide many favorable options; instead a harsh financial burden rules the life of the debtor.

Plan Your Way Out of Debt

As with other goals in life, it’s important to establish a plan and a date for achieving debt-free living. That date may be more distant for some than for others, but few people have success on a mission with no plan or date for completion.

For those in debt and serious about getting out, there are ways to accelerate debt repayments. Methods for doing this can be found through reputable financial planners who understand the importance of helping their clients attain freedom from debt.

Many people make a heroic effort to get out of debt, only to return to it later—oftentimes at an even higher level. These cases are indicative of how pervasive deficit spending has become in our society and how much discipline is required to get out of debt and stay out.

What usually throws people back into debt after working so hard to get out is they encounter a crucial and unexpected emergency expense during the debt elimination process or soon after, thereby having little recourse but to take on additional debt.

For this reason, I believe it is wise to include a short-term savings plan in any debt elimination plan so that there will be financial resources available if an emergency expense comes up. Adopting this method means it may take longer to achieve debt-free status, but there is a greater likelihood that the person will not go back into debt later. A second benefit is learning to become disciplined in saving.

Material abundance without character is the surest way to destruction.
Thomas Jefferson

Much of the American propensity to accumulate material abundance through deficit spending is a learned behavior. But this behavior was not always the American way. Many generations prior to World War II paid in full for all items or services they needed.

As individuals, we can choose to return to the wise example of our forefathers. Do not wait until you are forced to make drastic changes. If you have never experienced the financial freedom of living debt free, it will be both exhilarating and liberating.

Dale A. True, Registered Investment Adviser
True Financial Strategies, LLC
December 2008

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