Wednesday, December 16, 2015

The Black Hole of Rolling Credit Card Debt

Effectively managing our debt burden is one of the most important things we will do during course of our lives.  This is the first goal area we discuss in Mapping Your Life’s Success because it is very easy for young adults to get out on their own and dig a hole that they have a very hard time getting out of. 

All borrowing and credit activity should be strategic and thought out.

For most people there are two major debt necessities – home and automobile ownership.  You can’t just go out and get these kinds of loans without a GOOD credit history.  If at all possible, any credit activity prior to these purchases is done strategically in a way to “build” our credit.

A mortgage is a long arching debt commitment of up to 30 years.  Automobile ownership usually consists of rolling periods of debt to pay a vehicle off followed by periods of no payments until you need to purchase a new vehicle.  Generally, your positive credit history on a car loan becomes the gateway to being able to get approved for a mortgage. 

Beyond home and vehicle ownership we have to be extremely careful about any long term debt that we bring into our lives.  One example of debt that could have a positive cost benefit is borrowing money for post-secondary education. 

If we are able to sit down, do the math and see that we can make a good enough salary by attaining a vocational, business or college degree, this can be a good investment into our long term earning potential.

However, with long standing wage suppression and the ever increasing costs of post-secondary education you need to be very cautious about this investment.   Tread carefully and make sure that there will either be a real cost/benefit or that this is something that will put you into a career that is very important to you. 

You should also take the time to look into and exhaust all financial assistance that might be available.

By far, the biggest mistake young adults can make is allowing themselves to fall into the black hole of rolling credit card debt.  Nearly anyone with a job can attain a credit card.  Too often we don’t understand how much money credit cards make off of us for the issuer.

Credit cards tap you hard in two ways – high interests rates (the fee for the service) AND by spreading payments out over an extraordinary long period of time.  This works to further maximize the high interest rates. 

If you have $2,000 in debt on a credit card with 20% interest it will take 15 years to pay it off making the minimum monthly payment. When it is all said and done you will have paid $4,240 for the $2,000 the credit card company gave you, more than twice the value of what you purchased.

It is important enough to say more than once – if you do not have the means and discipline to pay bills off at the end of the month you should never make non-essential purchases with a credit card.  Budget savings for the item you are seeking to purchase and wait until you have enough money to pay in full.

Being enticed into rolling, high interest credit card debt is the primary financial trap facing young adults.  We have a very finite amount of money that we will earn in our lives.  It simply is a mistake to pay over twice the cost of a purchase for an electronic device or clothing by using a credit card instead of waiting or finding a way to pay cash.   

 Building credit is important, but is something that tends to develops naturally. 

When it comes to your credit score, the two key things to remember are:
1) it is a lot easier to do damage to your credit score than to “fix” it once it is damaged.  Better to have a limited credit history than a bad credit history. 

2) Making payments on time and not having too much debt are extremely important factors in your credit score.  This further emphasizes the need to be careful and strategic about your use of credit. 

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