If you pay for everything with cash and you’ve never had a credit card, an auto loan or any other type of debt, you may have a peace of mind that few enjoy. You don’t have to worry about interest rates and monthly payments; and when you own everything outright, nobody can take your stuff. But while debt-free living might be an ideal way of life, there are costly consequences.
No Opportunity to Build Credit
Debt can get us into a lot of trouble, but the flip side is that we need debt to build credit. If you never have debt, you might never build your credit file.
There are exceptions, however. For example, some people have established credit without getting into debt by asking their landlord to report their rental activity to the credit bureaus. This can work, but it’s not an option for everyone. Typically, you have to use credit to build a solid credit history, which means carrying some sort of debt, even if only temporary.
This might come as a shock, but a blank credit file can be costly when attempting to set up accounts with non-lenders. Landlords, cell phone companies, utility companies and some insurance companies will run a credit check before doing business with you; and unfortunately, no credit history can be just as bad as having bad credit. You may not have a dinged up credit score like someone with bad credit, but you’re considered high risk. And as a high-risk customer, you could end up paying higher security deposits and higher insurance premiums.
You Can Miss Out on an Education
A student loan might be a burdensome debt that never seems to go away, but it’s also an investment in your future, and often the only way to get the education you need for the career you want.
Of course, getting a degree doesn’t guarantee you’ll be offered a job—just ask the thousands of college graduates struggling to find employment. But on average, college graduates earn about $1 million more over their lifetime than someone with only a high school diploma, which can result in a better quality of life. According to a Pew Research Center report on higher education, college educated Millennials have “lower unemployment and poverty rates than their less-educated peers,” and they’re more satisfied in their careers.
If you hate the idea of finishing school with massive debt, there’s plenty you can do to reduce your amount of debt. For example, you can work while in school and pay for a portion of your education yourself, or you can make student loan interest payments while in school to reduce how much you owe after graduation.
You Might Pay More as a Renter
Homeownership isn’t for anyone. If you like the flexibility of being able to pick up and move, or if you don’t want to be responsible for home maintenance, renting is definitely your best bet.
On the other hand, if you’re not opposed to the idea of owning, don’t be scared by the thought of getting a mortgage. Financing a home does create debt, but if you calculate the long-term cost of buying versus renting, you’ll find that it’s almost always cheaper to buy.
As a renter, you give your landlord money every month and get nothing in return. You don’t build equity and you lose out on the opportunity to write-off mortgage interest and lower your tax liability. Both are financial benefits of buying. It’s true that buying a home requires saving up thousands for a down payment and you’re responsible for home repairs and maintenance, but it’s still the cheaper alternative because you’ll eventually pay off the house. There’s no end in sight as a renter, and the cost of renting only increases with each year.
You Could Lose Your Safety Net
Then again, maybe you have debt and you’re working toward becoming debt-free. I know people who’ve wiped out their savings accounts to pay off credit cards all for the sake of being debt-free. It’s a liberating feeling and a major sense of accomplishment, and when you pay off debt early, you save money on interest charges—and who doesn’t want to save money.
Debt-free living is a sign of being financially responsible, but so is having an emergency fund. As tempting as it might be, you shouldn’t pay off debt at the expense of your emergency fund. If you have $5,000 in your savings account and you withdraw $4,500 to pay off credit cards, you take away your safety net and your ability to get through a hardship. You might have a zero balance on your credit card, but one emergency can put you right back into debt.
Personally, I hate debt and I’m not the type of person to impulsively swipe my credit card or apply for store financing. But I also realize that not all debt is bad. So while it makes good financial sense to keep debt to a minimum, you don’t have fear debt, especially if it’ll help you get ahead and reach goals. Just make sure it’s an amount you can comfortably manage.
What are your thoughts?