The Wrong Way to Think About Debt
October 12, 2020 MST The White Coat Investor
Category: Getting Out of Debt
By the time you read this, my family will have been completely debt-free for about three years. From the time I was 18 until the time I was 42, we had some sort of debt, usually either a mortgage or even when renting we had the $5K student loan I took out as a college freshman.
We're (fairly, in my opinion) ignoring the current month's expenses placed on credit cards (always paid off automatically), the leverage used by limited partnerships/LLCs we invest in (since our loss is limited to our investment), and the leverage used by publicly traded companies whose stocks we own via index funds. Everything we now buy, including our home renovation (the most expensive purchase of our lives), we buy with cash. The White Coat Investor, LLC has never had any debt and we plan to continue to grow it debt-free.
That's not to say I've never tried to use debt to our advantage. All three of our homes we have bought with a mortgage. My last year of residency we funded our Roth IRAs using a 0% credit card that we would pay off as an attending a few months later.
We pulled money from our accidental rental property in order to purchase our current home. We drug out our final mortgage a couple of years longer than maybe we had to. I say all that to point out that I'm far from innocent of the “financial sin” I'm going to describe today. Let me explain.
I often suggest people pay off their debt or that they are over-leveraged in a blog post, on a forum, on social media, and even in real life. While most agree with me, there is usually someone who pipes up to give some pushback. The argument usually goes something like this: “It's stupid to pay off a 2-4% debt because you expect your investments to do better than 2-4%.” I used to believe this argument too. It's easy to do so because mathematically it is correct. The older and wealthier I get, the more I see serious flaws in this argument, and I'd like to discuss them today because the argument is so darn common, even among people who are debt-free!
I've started pushing back on these people (and no, they don't like it) by asking them two questions:
Are you rich yet?
If you are, did carrying debt at 2-4% while investing contribute to any significant portion of it?
The answer to number one is almost always no, but even if it isn't, the answer to number two is also almost always no. I fully acknowledge that there probably is somebody out there who would answer yes to both questions. But they are surprisingly rare. I run into so few of them that I'm not sure I can even describe them for you, but I postulate that most of them are real estate investors who maintain reasonable loan to value ratios of 50-66% on their rental properties. The person advocating for more leverage is usually a 25-year-old with lots of debt, few assets, and little experience. It never seems to be the 60-year-old multimillionaire I'd like to emulate.
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