#38 Use good debt wisely, get rid of bad debt completely.

Most people have some form of debt.  Credit card debt, student debt, mortgage debt, car loan, family loans, investment loans, payday loans, rotating lines of credit, and consolidation loans are probably the most common types of debt.  People typically use debt to buy something when they don't have the money for it at that given moment in time.  We as a society don't often save up for things before we buy them, but rather buy them and then pay back the loan over time... that's just the way most people do it these days, particularly younger people just starting out who have no savings to begin with.  The problem with debt is that if taken on for the wrong reasons, or if handled irresponsibly, it can make your life more difficult rather than easier.

But not all debt is bad.  We are quite comfortable taking on large amounts of debt but we only take on what we consider to be "good debt" and that brings us to defining good debt vs bad debt.  We use a fairly simple definition but it has some room for subjectivity.  Good Debt results in a better longer-term fiscal situation for our family as a whole.  Bad Debt results in a worse fiscal situation.

Another way of looking at it would be asking the question:  Does the cost of paying the interest plus the principle make up for it FINANCIALLY in the long run?

Here are my thoughts on what are good types of debt and what are bad.

Credit Card Debt - Bad Debt.  Interest rates are too high and most people use credit cards to buy things that depreciate over time.  If you don't pay your credit card off quickly, the interest will eat up a lot of your money.

Student Debt - Generally Good.  Assuming you are using the the associated education to make more money than you would without the education, then yes Student Debt can be Good.  Once you're done your education, I advise to pay off student debt quickly.  I would however challenge people taking "basket weaving" classes whether those types of diplomas/degrees are worthwhile for the money and interest that they are required to pay back, often for years and years. 

Mortgage Debt - Generally Good Debt.  It allows you to choose where you live and how long you live there by owning property.  Its debatable whether a home is an investment, but the benefit of being in control of where you live and knowing that rent wont be going up every year can help you budget your money more easily.

Family Loans - Generally Bad Debt.  Owing a family member may make sense in some cases, but I'm not a fan of owing family simply because its awkward and usually one side feels they're not getting the treatment they'd like. 

Investment Loans - Good Debt.  If you can make more money on the investment than you are paying for in interest costs, this is definitely good debt in my books.  We regularly use investment loans as part of our investment portfolio.

PayDay Loans - Definitely Bad Debt.  Essentially legal loan sharking. 

Rotating Lines of Credit - Depends on the usage, but I would bet most people are using it for consumer spending.  If you use it for investing purposes, then a Line of Credit can be good debt.

Car Loan - Bad Debt.  New Cars depreciate like crazy the first few years.  Buying a car may be a necessity, but we prefer to pay off car loans very quickly or don't have a loan at all.

Consolidation Loans - Bad Debt.  Usually the lesser of the evils of loans in that consolidation loans usually have lower interest rates than other high interest loans such as credit cards or some car loans. The downside is that this often still consumer debt, just at a different rate.  Pay it off.

Kim and I both had student loans in the 10s of thousands of dollars, which we paid off within a few years once I started working. At present, we have an investment loan and we will be buying a house next Spring which will mean we will have a mortgage again.   Both of these loan-types will help better our financial situation and so we are quite comfortable having them and generally not in a hurry to pay them down.  We have no other types of debt at the moment and we intend to keep it that way.  Whenever we've had other types of debt, we've work very hard to pay it down as soon as possible.  By only having debt that helps our financial situation and doesn't hurt it, it means we don't fuss over our debt as much as other people, and we know that by paying the debt off, we aren't merely pouring our money down the drain, or lining the pockets of others.  We obviously need to make sure that the amount of good debt we have remains at a manageable level that we can be expected to be able to cover with our monthly income.  That is where budgeting comes in.  

Rule #25 Live like a student as long as you can.

"The essentials of life are cheap. Only the luxuries are expensive." - Ron Muhlenkamp

Remember when you were a student at college or university? Remember how much fun it was and yet how broke you were? You didn't have a luxurious place to live in, or a car, and you walked to everything, or maybe skateboarded everywhere?  The TV you had was the TV the previous tenants left behind because it was too bloody heavy to move... you know.. the Radiation King with the wooden case, and you certainly couldn't afford cable TV.  You stayed in and hung out with friends, choosing potlucks instead of going to fancy restaurants.  You made coffee at home, and brought sandwiches for lunch instead of buying it.  Cheap Poutine and Pitcher of Beer night at the local pub was the best night of the week because you and your friends could nurse your drink and wax poetic all night long at discount prices.  Life was simple.  You had few financial liabilities and it was fun living this way.

But then something happened.  There was this temptation that with a new career must also come a car, new furniture, fancy clothes, an expensive watch or phone, a big flat-screen TV,  and instead of frequenting the local watering hole, you feel compelled to hang out in the more expensive places with the foreign or micro-brews on tap instead of the cheap domestics.   Your big adult paycheque deserved a big adult lifestyle.   That big TV meant a cable-TV plan, and high-speed internet and a phone with a big data-plan.  Whoa! This is starting to sound expensive.

I always tell young people I meet to resist this temptation as much as possible, for as long as possible.  It is extremely difficult to save, pay down debt, and generally get ahead if you jump into a higher standard of living without the financial base to make it happen first, and that is just what many recent grads do.  Once people get used to a high-status high-consumption lifestyle, it is often very difficult for people to reign in that spending if needed, so the longer you can prolong your student lifestyle, the better.  I can not emphasize enough how much financial sacrifice plays in to financial well-being and resisting many of these adult lifestyle trappings can be a boon to your bottom line and mental well-being.  In my opinion, spending money on luxuries in life such as cars, expensive clothes, and expensive monthly liabilities such as Cable-TV should only be done once the basics are covered such as eliminating bad debt and having some savings.  Another thing I've noticed is that people with high standards of lifestyle without a financial base often worry a lot about maintaining that lifestyle...  and I generally like to sleep at night, so a simple carefree lifestyle suits me just fine.

When I was in grad school, we lived just like in the first paragraph.  My wife and I lived in a very modest apartment, we didn't own a car, and we didn't have have a TV let alone cable TV.   When I got my first employment position as a technical professional, there was a temptation to buy all the fancy things people come to expect with such a position.  But we resisted.  We did however buy a house after  I had been working for 3 months only because we were going to be evicted from our apartment due to a coming renovation.  While we did own a house, it would be another 4 years before we would buy a car.  It wasn't that we couldn't arrange for a car-loan to get one, it was that cars are money pits, and we weren't interested in digging new financial holes while we were trying to pay off our student loans.

With two adult salaries, but without many of the liabilities many adults take on, we were able to slay both our student loans ($58 thousand worth) in just over 3 years, save up enough to pay for a used car four years after I started working, begin to max out our RRSPs, and give to worthwhile charities.  We were essentially saving 50% of our take home pay.... By comparison to many in our field and experience level, our standard of living was modest, but we were very happy because we maintained that interactive social face-to-face lifestyle by continuing pot-luck get-togethers and Cheap Beer and Poutine nights.  We still lived with "student" quality furniture because it still met our needs.  It was still functional, though certainly not fashionable.  We only bought stuff out of necessity, not because of some feeling or self-imposed obligation around keeping up with others.    We never focused on what status items we were missing out on, but rather focused on relationships and building a solid financial base to give us more flexibility and freedom as we got older.  Once the essentials of living have been taken care of, then we focus on adding the luxuries.

At our current stage in life, which is late-thirties with young kids, we have adopted many of the liabilities that come with adulthood: A nice car, high-speed internet, club memberships etc, but we only added these lifestyle choices when we could afford them.  To this day we still walk or bike everywhere we can, we do not have Cable-TV, dont frequent fancy restaurants more than once a year, and Cheap Beer and Poutine are still our favourite nights out.

Rule #23 Automate all Monthly Payments

I have no idea when our bills are due.  I know they are due sometime during the month, usually near the end of it, but I dont fuss with checking the exact due dates anymore.   We have automated all but one of our bills.  When I say automated, I mean that we have set up an automatic payment either through the company itself or through our main bank to ensure the bills are paid on time.  We dont need to go stand in the long lines at bank tellers or ATMs to pay our monthly bills anymore because they come directly out of our accounts on the same day each month.  This way, we never have to worry about missing payments.  The payments are approximately the same every month, and the payment always comes from our checquing account, so we just make sure there is always enough in our account to cover the payment.  I find with money and bill management,  the path of least resistance with the highest amount of certainty usually makes the most sense, so making things automatic is the way to go for us.  No muss, no fuss.  This means we can focus our energy on other aspects of our financial planning instead of spending a couple hours a month in line-ups.

We do this with bill payments, debt payments (when we have any), rent, mortgage payments etc.  We have also applied this automating to investment contributions.  This is essentially the same concept of paying yourself first, automatically.  Each month, a set amount comes out of our account to go into our investments, and/or our savings accounts.  We have coordinated the timing of these particular withdrawals to coincide with our paydays.  The day that our paycheques go in our accounts, is the day the money comes out to make the contribution.  One thing about automating all our bills, debt payments, mortgage payments, and now investment contributions, is that when we look at our bank account balances, we know that most of the money in there is ours... it is essentially our discretionary funds... because all of our non-discretionaries (minus food) is, for the most part, already paid for.  We have learned to live without that contribution money in the first place so it never feels like the money is being taken out of our pockets.

By applying the Automatic Payment method to investments, we never have to choose how much we are going to save or invest that month, because we have already arranged for it to come out automatically.  The automating of the process of investing contributions essentially makes it a compulsory contribution.  It makes it habitual.  Inertia is huge in making a contribution, and anything that will increase the probability that you will continue investing in your financial security is a good thing in my book.

The benefits of automating one's payments are a plenty.  We never pay late fees because we are never late with payments.  If we go away for a week, we don't have to pre-pay any bills or dig through our mail when we come back to see which ones need to be paid right away.  Since our investment contributions are automatic, we know our future is being funded and don't have to carve off part of our paycheque because its already done.  Our credit rating is never in jeopardy because we didn't get a bill in the mail, made the wrong payment amount, or because it somehow got misplaced among the junk mail and went unpaid.  Lots of good reasons.

A the the end of the month, right about when I do our charting, I also leaf through the bills and see if there are any irregularities that may need addressing, but thats the only time of the month that I look through the bills.

There is one exception to this rule around automating, and that is with our credit cards.  Our credit cards may have additional items/services purchased on them from time to time and so an automatic payment doesnt suit us well in this case.  I check the balance every couple of days and pay it off completely.  I dont even wait for a bill to come in.... We treat our credits cards at 1-2 day loans, paying them off right away.  you can read more about how we use our credit cards here.

Rule #22 Pay your bills on time.. Every Time!

Want to know how to sabotage your finances in the foreseeable future? How's about screwing up your credit rating, while at the same time building up a deadbeat image of yourself?  Yeah, thats one of the worst things you can do.

It's funny how people do silly things that sabotage their financial wellbeing ... and by funny I mean strange.  An example of this is voluntarily harming their credit rating.  When I was in University, one of my roommates didnt have enough money to pay his cable TV bill but that didn't stop him from going out for a few brewskis with the boys.  Here's how one particular discussion went:

Ryan: "Hey man, your bill has been sitting there for a month... you gonna pay that? It was due last week."
Roommate: "I am getting my next instalment of my student loan in 6 weeks and I will pay it off then."
Ryan: "Dude, you cant just miss a payment.  Maybe you shouldn't be goin' out to the pub til you pay your bills."
Roommate: "They'll get their money, as soon as I get mine. I've done it before, no problemo."
Ryan: "That's gonna bite you in the ass someday"

Integrity is one of the traits that was ingrained into me as a kid, and it is one of my most valued traits in other people today.  Integrity to me means you do what you say you are going to do.  Its as simple as that.  And when you borrow money, you pay it back on the terms that you agreed to, or even earlier!  Growing up in my parents house the rule was: You only borrow money you know you can pay back and you ALWAYS pay your bills on time.  You always sacrifice discretionaries before missing a payment.  Always!  That was a given in my childhood household growing up and it is a given in our adult household today.  That includes bills, mortgage payments, loans, credit card payments, handshake loans with family etc...

Beyond having integrity, there is another good reason to pay your bills on time... maintaining a good credit rating!  When I was a teenager my parents taught me about a person's credit rating.  I've known about it and have been maintaining a good one all my life.  A credit rating is a metric used to evaluate your credit worthiness, or your ability and reliability to pay back debt.  Banks and other lending-related organizations share your income and debt history with each other in order to determine how much to lend you, what rate to lend it to you at, and the duration of these terms when and if you can borrow money at all.  The part you can control the most is how much you borrow and how you pay it off.

Let's focus specifically on the paying it back part and why you should care.  Your credit rating will suffer if you dont pay your bills on time... no matter what the reason, and in the end that hurts you more than anyone else the next time you go looking for a mortgage or a new car loan.  If you were buying a car on credit and you could only get the loan's interest rate at 7% while your brother-in-law was getting the same deal only at 5%, simply because you didnt pay your bills on time, you'd be kicking yourself.... or at least you SHOULD be kicking yourself.   Thats money you are leaving on the table.  If you have any money sitting in the bank and you are missing bill payments, you are likely ruining you future finances by acting so irresponsibly.  If your credit rating is the pits, it means higher interest rates that you are required to pay, or it may result in you getting turned down for a loan altogether.  Paying extra at a later month doesn't make up for missing a payment either, as some people I've talked to seem to believe.  If you ever want to borrow money in the near or distant future, the lender will absolutely be checking your credit rating first, so always keep that in mind when those current loan statements and bills come in the mail.

Come Hell or high water, we never miss a bill payment, we always pay our bills on time. Always.  As a result, we've never been turned down for credit when we've asked for it. and we get good interest rates on the loans that we do have.

Rule #21 Chart your Progress!

I know people who procrastinate starting to save or pay down debt because they believe there is no way they will get out of debt or save enough to be financially independent.  Its like they feel like there is no way to chip away at the task because completing it seems so daunting.  The task seems so great or that saving a couple thousand dollars a year seems so difficult yet insignificant in the big scheme of things, that they simply don't get engaged with their own finances.  We have found that charting our progress is a great motivator for us as it shows progress right away.  Yep, you're going to have to learn some basic spreadsheet skills, but you wont need an engineering degree here... just a friend with entry level Excel should be enough.  If this simple Geologist can figure it out, you can too.  Charting your progress lays out in visual form where we are, and what our financial trend is. From an investment standpoint, we are mainly focused on our assets cash-flow and not its market value, so this makes it super easy to keep track of because we don't need to track our portfolio's current value, but simply the dividend income.  This eliminates the hand-wringing that happens when the market corrects and the TV talking heads are all doom and gloom.  Seeing our investment cash-flow go up and our debt go down month to month or year to year reinforces visually that we are on the right track.  It also encourages us to steepen the slope by adding additional funds and boost our progress.

I used to make projection forecasts where I would make assumptions about how much we could save etc into the future... but I stopped doing that because I almost felt like we had accomplished something when really all I was doing was just fiddling with numbers in a spreadsheet.  Plotting month to month in real time as you do it is proof of accomplishment.  It doesn't take all that much time once you get the spreadsheet set up and running.  Just open it up on the same day every month (we use the first of each month) and tally up any increases/decreases from the previous month.  Post the charts on the fridge so there is a constant reminder that you are going in the right direction.  You can also see where you fell off the wagon a month here or there...

Another nice thing about charting your progress is that after you've been doing it for 4-5 years you can see how far you've come by doing look-backs.  Assuming that you stay on track and have good financial habits, you will also see the power of compounding right before your eyes because the slope of the lines will naturally steepen as exponential growth takes effect from year to year.  You can also feel momentum building, that will act as further motivation and encouragement for you to keep on saving/investing/paying down debt.... and to us that feels pretty darn good.

So... go and embrace your inner engineer and break out the spreadsheets. Not just for nerdy math and science geeks anymore.