When counseling couples who have financial problems, too much and inappropriate debt is almost always part of the root cause. Too much debt will make it very difficult for you to achieve financial independence. While it’s impractical to avoid debt completely, you should be able to maintain appropriate control of your debt.
Years ago, a couple came to see me because of their financial problems. It turned out they owed over $140,000 across over thirty-plus credit cards! These were two professionals so they had a great income but their minimum payments plus their most basic bills (mortgage, utilities, insurance, etc.) exceeded their net paycheck. They were literally drowning in debt!
The Debt Rule. First, you should avoid debt as much as possible. However, the key Debt Rule is that if you must borrow to buy something, the economic value of what you’re borrowing money to buy must always exceed the indebtedness. That way if you get into financial trouble, you can sell the item and raise enough money to pay off your loan. Some items, such as clothing, have very little value after they’re purchased and should not be bought using borrowed money. Other items such as automobiles lose their value rapidly and therefore will require that you save for a larger down payment in order to stay within the guidelines of The Debt Rule.
Debt problems are caused by many different factors. One of the biggest culprits is misuse of credit cards. You probably receive credit card offers through the mail regularly. Credit card companies know that when you have credit cards, spending will increase. Then, if you only make minimum monthly payments, you’ve got a debt disaster. You simply have to avoid the credit card trap. There are some solutions.
The potential to misuse credit cards is enormous. The first thing you should do is to reduce the number of credit cards. You only need one or two. All retail stores will accept either a credit card or a personal check so having a retail store charge card is not needed and should generally be avoided. By reducing the number of credit cards, you automatically reduce the risk for misuse.
I’m not saying you shouldn’t own a credit card.
You should own one or two credit cards for these reasons:
1) They help establish your credit.
2) They can be used as a source of cash in an emergency.
3) They provide identification (i.e. for cashing checks)
4) They allow you to avoid carrying large amounts of cash.
The key is to control their use and avoid abuse.
Knowing how much you’ve charged on all your cards will help you keep track of your debts. To keep better records, enter charges directly into your checkbook just as you would if you had written a check. Subtract the charge from your balance. Why? You just spent the money so you must account for that expense immediately. Later, when you get your credit card statement, don’t subtract the payment to your credit card company from your balance since you subtracted it earlier.
By entering your credit card charges directly into your checkbook and subtracting the charge from your balance, you will gain control of your credit cards.
The preceding is an excerpt from my soon-to-be-released book, “The Couples Guide to Personal Finance”.