Dominate Your Debt in 2020

Not all debt is created equal.

In this episode we cover the different types of debt and why some debts may actually be considered good debt.

Most importantly we dive into debt repayment strategies to help you take your financial confidence to the next level.

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Really stress yourself out and go to that upper echelon of where a bank will be willing to lend you the funds. They don't care if if it's going to be tough money if it's going to stress you out making the payments. They do their calculation on all the loans they ever give out to people and they figure out what's a reasonable default rate. This is Techy's personal finance bootcamp where I help tech professionals in their 20s and 30s balance a great life's day without sacrificing their future possibilities. I'm your host, Lucas Casares, certified financial planner and founder of Level Up Financial Planning, where I help educate, coach, and build strategies with my clients to help them take their financial confidence to the next level. Here's an important compliance disclosure. This podcast is for informational purposes only and they're not to be considered recommendations. It is recommended you consult your trusted financial professional before implementing any information obtained from the Techie Personal Finance Boot Camp. Welcome to Techie Personal Finance Bootcamp. I'm really excited because we're going to be diving into another episode in season 1.5. And so the reason why it's 1.5 is because it's a special kind of in-between uh season series that I'm running for the start of 2020. So you're going to be learning about how to get out of debt, how to manage your cash flow, how to build wealth. But with that, let's get started. Today's episode is going to be dominating your debt for 2020. So how do you get out of debt? There's a lot of ways. It's definitely trickier than you than it should be because a lot of it is just emotional and behavioral. And it's a lot harder to change your behavior and control your emotions than you would hope to expect. If you are following along through the video and anyone listening to the podcast episode, uh there's actually a video that's associated with this episode as well. So feel free to check that out if you're more of a visual learner. And I think the first thing we should do is define what debt is. So debt is just when you owe something to another party. And so that's that's really all it is, is someone probably lent you something, or uh for one reason or another, you owe someone something. And it doesn't always have to be monetary debt, but uh that's obviously what we'll be covering today in this episode. And one crazy thing about debt to me is that it's actually pretty unique, it can actually act as a propeller or an anchor. Um, so it's all about how you use it. So if you think about a boat, a propeller allows you to kind of fly in any direction you want to go. Or you could if you throw in an anchor and you try to use a propeller, those things are not gonna happen, they're not gonna work well together. So you need to know which way you're using it and how you're gonna use that. We'll talk about a few strategies that to help you out too. So there are mainly two types of debt, and we'll go over kind of what those different spectrum is, kind of where things fall. But when I think about debt and the different types of debt, there's unsecured and there's secured. So the purpose of why you obtain the debt actually plays a significant role in determining interest rates, and it plays a role in determining whether it's a good debt or a bad debt. So uh an unsecured debt is basically someone giving you funds for a loan, and they don't care what it's being used for. You can use it for any anything. You can go on vacation, you could just go and blow it at a casino. There's so many different ways that you could use it. Hopefully, you're not doing uh that last one, but uh there's so many different ways you can use funds. And with unsecured debt, they typically do not care why you are obtaining it. They might ask you that question when you're obtaining a loan, what is this for? But in most situations, unless you say something illegal, they're not likely to decline the loan just for that reason alone. And so why it's called unsecured is it's not tied to an asset, and because of that, there's more risk to that financial company lending you the fund. So that's why there's a higher interest rate. And when I say financial company, I suppose it doesn't always have to be a company these days. There's a lot of different apps and kind of sharing websites where the lender can actually be an individual or person, um, but still, same kind of rules apply. If there's more risk being taken by that person that's lending the funds, typically the interest rate's gonna be higher. When you look at the other options, the secured debt, that is actually gonna be loans based on usually a very specific purchase. So that makes you probably think of mortgages for purchasing a home, auto loans for purchasing a vehicle, those are gonna be considered secure loans. And the reason for that is because if something were to happen, let's say you lose your job or just stop paying, technically those items can be repossessed. So contracts that you sign when you obtain those loans that say, hey, if I don't make these payments, you're able to request this back by any means necessary, basically. And so that's uh comes in the form of repossessions or uh forcing you to sell and kind of pay off what you can. So because of that security and being tied to those assets, that's why these interest rates tend to be a lot lower than when you have an unsecured interest rate. And if we want to kind of talk about that different spectrum, I'm sure if you've if you've talked to anyone and they try to inform you about debt or they're talking about different forms of debt, you probably heard something where they said this is bad debt, this is good debt. Um, if you don't remember exactly what those are, don't worry about that because we're actually gonna cover that right now. So uh when it comes to your liabilities, which is another way of saying debt, there's actually different versions, different variations on the spectrum of bad debt versus good debt. And so basically that means not all debt is created equal. Sometimes there's better choices you can make with the worst form of debt that I tend to see very often is credit card debt. And the reason why it's such bad debt is because the interest rates are ridiculously high. Uh, sometimes they're like the mid-20s percent, so 24, 23% uh is not a rare occurrence at all by interest rate standards. So you're lucky if you have like a 10 or 12 or 13% interest rate, which is still high, but that's just kind of where that spectrum in interest rates lands uh these days. I know when I first got my credit card, which has been like over 12 years ago now, it was at uh 7.25%. So still not a great interest rate back then, but interest rates for credit cards have risen. And so typically that range is somewhere between 10% and about 20, 24% or so. So with that, you get to use those funds however you want. And the credit card company actually doesn't care if you pay it back all uh immediately. What they care about is they're gonna be charging interest as long as you're making your minimum payments, you'll actually pay a lot more to that credit card company if you don't pay it off on a regular basis. So that's that's something to be aware of. You can actually use these credit cards pretty for a pretty awesome reason and take advantage of the rewards, but it only works if you are actually paying it off every month and not using the reward situation to tempt you to spend more money than you would have otherwise. If you have a good budget in place, you know how you spend your money, you know things are going on the right track. Using a credit card is actually a really good thing, but owing money on the credit card and not paying it off is a bad idea. So you can actually leverage that for the rewards and pay it off, never end up paying any interest on that. There might be a small, pretty minimal uh annual fee. Credit cards can be good, but in most situations, it's it's definitely X as that anchor that we were kind of describing before. Kind of moving along the spectrum. Personal loans, personal loans are not too common, but they're they're definitely a go-to when you're in trouble. So this typically results when you don't have emergency funds. Same thing for credit cards. That's typically when you go to credit cards and something comes up and you feel like you have to do it or it's an emergency and you just need to do it, it goes to credit cards or personal loans. Uh, personal loans are a little bit more difficult, probably not the easiest thing to go through because uh with credit cards, that those funds are already there and available to you. But with a personal loan, you actually have to go and apply for the loan. And so there's a little bit more to the process. It makes it a little bit harder to kind of uh get access to those funds quickly with the interest rates there. Those tend to be a little bit better in credit cards, or they might be as good as the lower end of the credit card spectrum. So if you ever find yourself in an emergency, you'll definitely want to weigh, well, what's the interest rate on the credit cards? What's the interest rate on the personal loans, and kind of do what feels like it's gonna be the best kind of overall long-term uh projection with either of these loans? It should be a huge goal to try to pay that off as quickly as possible because those interest rates are again not the greatest. It's gonna cost you a whole bunch of money if you don't pay them off quickly. Moving along that spectrum, kind of middle of the road would be auto loans. So auto loans, they're great because the interest rates tend to be fairly low because it's tied to an asset. The problem is vehicles are a depreciated asset, so it's not as simple as saying, oh, I'm gonna get this, it's a good investment, because it's not necessarily the the as far as vehicles being a good investment, there's the safety aspect, there's the reliability aspect, and there's yeah, just being able to get to work or be able to do the basic things that you need to do in life, which you could do with a bicycle or you could do with a a pretty moderately priced vehicle. And so where people kind of shoot themselves in the foot, and I say this a lot specifically with clients I start working with, is because they they graduate school and they get their first real job, or they graduate their code and boot camp, they get their first new tech career job, and their salary looks a lot better than it did before. They go out and they buy a super expensive car, and although it's cool, that coolness runs off when they have a huge payment kind of weighing them down, and then they kind of realize like uh that I probably wouldn't make that same decision again. So that's something where there's just a big range of where you can end up purchasing a vehicle. You can buy something for $20,000 and it could be just as reliable, just as beneficial to your life as a $60,000, $80,000 uh vehicle. So you just definitely want to know what your situation is, know what's going to be a good fit for you, and actually allow you to achieve some of the other goals. Because if not, then then it may make sense to spend like a whole bunch of money on on vehicles if that's kind of your only goal in life. But most people have a bunch of moving goals, moving targets, and so you want to make sure that you're not applying too much in any one area when you kind of calculate the net value you're gonna get from all these things. The next thing is a little bit tricky. So I put student loans ahead of auto loans as far as being a good debt, because from my personal experience and for a lot of people I know obtaining an education, which I could have only done by obtaining student loans, we didn't have the means to pay outright cash uh for all of my uh education. And luckily, I had some employers that provided some uh tuition reimbursement there to kind of stem off some of that uh higher cost that I would have had to swallow with additional student loans. But student loans definitely someone could make an argument that this is a question mark, it could be good debt or bad debt. It really comes down to whether or not that education you're obtaining is gonna turn into an investment. So if you end up making more in terms of income as a result of your education and that background that you obtain from that, then student loans are a good investment. It just may take a while for it to feel like that because I know it's painful paying off these student loans for 10 years. Sometimes it's 10 plus years, depending on uh how quickly you kind of get into gear with your career. So definitely I've I've seen both positive and negative situations with student loans. Typically, their interest rates, as long as they're government-based and for kind of bachelor's degrees, those interest rates are pretty reasonable. Sometimes I've seen them as low as like 3%, and the highest I've seen is 8%. So there's definitely a range in there. It depends on when you're going to school, what interest rates are at that particular time. But if you start to go private loan, uh private companies and having to go outside of the government-provided student loan assistance, then those interest rates get pretty ridiculous. And then it just increases that income that you're gonna have to create for yourself once you graduate. So you definitely want to analyze this as much as you can with as much knowledge as you have available to you, whether the additional student loans can make sense and actually be a good debt for you in the long term. The closest you can get to good debt, I would say, is uh purchasing property, especially in the form of a mortgage for your personal home. And there's a few reasons for that. Interest rates are ridiculously low. Um, they're probably floating somewhere between three and four percent as of the time that we're recording this video. If you've asked your parents or grandparents what interest rates were when they obtained their mortgages, they would say like 10%, 15%. Crazy, crazy numbers that it's it's even hard to imagine right now. So the the reason why purchasing a home with a mortgage tends to be one of the better forms of debt. So that lower interest rate definitely helps. But also, you're hopefully buying a home that's going to appreciate in value. Most homes have increased in value over the last 10 years, especially, and even before that, just besides real estate and the stock market, though, like those are really the two things that consistently outpace inflation and have consistently shown growth uh over kind of short-term and long-term time horizons. So that's why using a debt to purchase a potentially increase in in value asset is definitely a valuable choice. And again, I think it's falls in line similar to that auto loan description where there's a wide spectrum. You could really stress yourself out and go to that upper echelon of where a bank will be willing to lend you the funds. They don't care if if it's gonna be tough on you, if it's gonna stress you out making the payments. They do their calculation on all the loans they ever give out to people and they figure out what's a reasonable default rate. And so they don't care about you personally. Um, the mortgage uh financing person probably doesn't have the education or knowledge to know whether or not this is actually good for you in the grand scheme of the other things you have on your plate and your goals. And so you have to make that decision yourself. You have to be smart with how you kind of see uh your not only uh vision for the short term but long term to you. Are these things uh gonna matter? I can tell you right now that when my wife and I have been kind of changing our career trajectory after we purchase our home, it's made things a little bit trickier based on the current home that we had because we decided that we were gonna live off one income, then we decided we were gonna start a business, and now uh we've been just kind of changing our income over the last four or five years, ever since we bought our newest home. So definitely complicates things, and so you want to make sure that you have a good idea uh how that's gonna fit, and you have to be the one that kind of advocates for yourself is this gonna be best for me? Uh, because there's not too many other people that will be able to stand in and say, hey, uh you should think about this because you can get this other house and also provide safety, security, these those main reasons for having a home, but it comes at a fraction of the cost. So now that you know kind of all those different forms of debt and and probably some of those things you're like smacking yourself in a hand, you're like, ah, yeah, I'm definitely on that bad side of debt, or uh maybe you're saying that, yep, I probably overpurchased on a vehicle or a home or something like that, or maybe the student loans, you're like, ah, it was a good investment, but it's still painful. So uh now that we've gotten all that kind of more painful part out of the way, and then we can focus on the cool, the exciting part, which are the strategies. So I love strategizing for all different types of financial reasons. But before we dive into some of the strategy options, it's actually best to just recognize that the best strategy by far of paying down your debt quicker is to look at your expenses and find ways that you can save, and then use those savings to pay down your debt faster. So that's probably also the hardest thing to do, but it you just have to be real with yourself as far as what what your current situation is, how hard do you have to work to fix things, or is it just a matter of being a little bit more efficient? You don't necessarily have to go uh crazy and start finding expenses uh every possible way, but uh it definitely helps and it can increase your confidence. Um, and I've seen it with a lot of my clients as well, just just kind of going through the conversation, talking about what's important, and then getting excited about having that clear direction, it helps take that sting out of some of that budgeting aspect. So if you're able to find a way to save, so you're gonna release the pressure of your cash flow significantly. So the few things we'll dive into, it's gonna be consolidations, refinances, paying off the debt, negotiated reductions, which I'm actually not gonna go into. I don't have a good expertise there. Uh from what I've seen, there are a couple good companies every now and then, but there's probably more bad companies than good companies, and just not a lot of clear information as far as what to expect if you're going through one of these companies to renegotiate your debt. So, not an area of my expertise. So, if that's something you need to do, you should definitely explore that and make sure you ask a lot of questions. And then finally, uh bankruptcy. So, when it comes to consolidation, I think this is the most commonly misused way of managing your debt. So the reason why it's misused those, well, let's talk first about why it's it could be a good thing. So it definitely makes your life a little bit more convenient and streamlined, so it kind of consolidates multiple debts into one. And so basically you get one payment, one interest rate, and it's one login or however you manage and navigate your finances. But that's that's really the biggest selling point there. One thing that a lot of people fail to recognize, though, is that um there's there's some risk uh that it may not be best to combine certain debt into this new consolidation loan, but that's that's not what happens. They they say, Oh, you should just put all this debt in here, so it's just one payment. Well, that's not always best. You uh may have almost been paying off a debt, which would free up that monthly cash flow, um, which it ties into the debt snowball and debt uh avalanche that we'll tackle in just a minute. But also, you might be moving from a lower interest rate in one of your current loans and consolidating that into this consolidation loan that has a higher interest rate. That's that's a huge red flag if someone's trying to get you to do that. Uh, you definitely want to analyze the situation. I find it very unlikely that would be uh the best thing for you to do is move from a lower interest rate to a higher interest rate just for that convenience. It'd be a really expensive convenience cost at that. And the last thing would be increasing your overall payments if your cash flow is already tight. So a lot of times the only way to get these consolidation loans into a reasonable interest rate is if you kind of have a smaller time period of paying those off, which if it puts additional stress on your cash flow, that means that you're gonna be probably going back to high interest debt in the form of credit card debt and personal loans if some emergency comes up and you don't have the funds, you don't have the cash flow to handle those kind of short-term emergencies. So refinancing strategies, that's what I prefer over most situations, um, other than just paying it off, uh, paying off the debt faster and kind of finding those savings rates. But this is definitely kind of in there in the more top-of-the-line strategies I use with my clients. So obviously, this works best when the new rate is going to be lower than your current rate that you have for these loans. So you definitely want to try to look to refinance a lower interest rate if you're gonna be refinancing. There's also a little known kind of technique where you can do a cash-out refinance to pay off higher interest debt. So this could be either through your home in a the form of a home equity loan or a home equity line of credit. And you can also do this with your auto loan if uh your vehicle's value is greater than the value of the loan. So you might have some equity there that you can actually do a cash-out refinance. Like I mentioned, auto loans tend to have reasonable interest rates of maybe like 4% or so. And so if you're able to get a 4% loan on the equity of your vehicle and pay off some higher interest debt that's at 20%, it's it's a no-brainer as far as the savings goes on that aspect. You may also consider, and I say consider with uh exclamation point to just kind of make sure you do your homework and make sure this is gonna be the best fit for you, but extending the term on your lower interest debt. So, again, kind of auto loans is definitely one of those things, mortgages is one of those things too, where by extending the term on lower interest debt, it means that your monthly payment is gonna be a lower requirement. And then that way you can pay off higher interest debt faster. So basically, you reduce the amount that's required of you to uh pay down these kind of lower interest rates, which frees up cash flow to attack those higher interest rate, credit cards, personal loans, things that are a lot more expensive. And so that's that's the game plan for that. So when it comes to payoff strategies, this is probably the best one to approach. And there's two different ways. So you can do the debt snowball or the debt avalanche. I think the biggest thing though that uh you want to make sure you don't do on accident is forget to make minimum payments. So always make your minimum payments regardless of which payoff strategy you're gonna use. So the debt snowball um that's where you focus on paying the lowest balance first, and so that's regardless of interest rate on that debt snowball. The reason for this. Is because it most people psychologically and behaviorally are more successful with this strategy because you end up getting those wins quickly. If you had a $5,000 credit card, a $2,000 credit card, and a $200 credit card, if you were focusing on the higher balance one, maybe because it has a higher interest rate, it's going to take you a lot longer. Maybe you only have a few extra $100 a month to apply towards that. It's going to feel like an uphill battle. It's going to feel like you're not really making progress on that larger balance. But on that smaller $200 balance, you might be able to knock that out in the first month. And then that minimum payment then goes to that next lowest balance that you owe. So you get that quick win. You're like, yes, I got it. I'm doing really good. Let's keep this going. So you get those wins. You get that kind of emotional injection of you're on the right track, a lot better. Where if you kind of flip that thing around, it might feel like you're trying to run a marathon and you're just never going to make it, which isn't true. You're still making progress and you may even be making more progress. The problem is psychologically and emotionally, it doesn't feel as good because it's going to be maybe a year, maybe two years before you actually get that paid off. Meanwhile, these other ones, you're just making the minimum payments. I think when it when it comes to making payments just in general, so ignoring these strategies, the biggest thing I see is people just throwing money randomly. Oh, I got extra money here. I'm going to throw it here, I'm going to throw it here. And so that's where people run into trouble is they're not actually making progress. They don't actually have a game plan. They're just kind of throwing money around to feel better, but it's not actually making progress, especially if you are still using credit cards, you're still going into debt. I think the biggest thing you should do when you are trying to pay off your debt is to hide your credit cards on yourself. So put it in a drawer, access it if it's emergency emergency type stuff. Um, but other than that, definitely ignore that it exists, and then start working on paying off that debt, and then you'll start making that progress. The other way that you can pay off your debt is called the debt avalanche. So it's kind of the opposite of the debt snowball. Instead of focusing on the lowest balance, you're actually gonna focus on the highest interest first. So this one, the reason why this one could be beneficial is if you're very uh emotionally strong and behaviorally strong, knowing that this is actually the best thing in terms of strategy when it comes to the financial aspects, because you'll actually save a lot more by taking this approach. You'll actually pay all of your debt off faster, just not the that smaller debt faster. And it does feel longer to get the win. So, in that same example as before, if if that higher balance is the highest interest rate, you'll actually save a lot more money doing that, even though it's gonna take a long time for it to feel like you're you're making those wins and you're uh making progress. But financially, if you kind of line these up dollar for dollar next to each other, the debt avalanche makes the most sense from a pure number standpoint, but from uh higher chances of success, that snowball uh stands better and stands uh to actually give you the best shot of actually being debt-free or kind of approaching that goal. So that's why debt snowball is usually my recommendation for clients because I know the emotional aspect of your behavior and and who doesn't like feeling good and getting those wins. That's why video games and and things, any type of things like that, start out with small challenges and you kind of gradually level up. That's kind of what happens with that debt snowball. So the last kind of strategy would be uh bankruptcy. And so uh the ones that I cover here, there's I'm showing you two, there's actually five, uh, but these are the two most common for individuals and families. And when you think of bankruptcy, it's kind of like the fire alarm on the door or on the wall. It's break in case of emergency. So don't don't just do it every single time that you get stressed out about money because that's that's not gonna be good for anyone. Um, break in case of emergency, uh, kind of outline why you might want to do one or the other. So, chapter seven, that's complete bankruptcy. It's a fresh start, it's gonna show up on your credit checks, and so that may impact things. Your uh cost of insurance may go up, you might not be able to get a new rental. If you're trying to rent a property, you might have trouble with loans and things like that for uh a handful of years. So typically, what I see is sometimes between like five and seven years, you start to be able to have access to things more easily, but uh sometimes it is a little bit quicker. So you'll want to analyze that situation for yourself and figure out if it makes sense for you. Definitely a big decision, something that you have to think long and hard about. Again, it's breaking case of emergency. It's not, oh, feel bad today. I'm gonna go do it. You want to think through this and make sure it's gonna be the best stuff for you. So the difference with chapter 13, so that's more of just making adjustments for debt. And really, it's for people that definitely have income and they have the desire that they want to be able to make these payments and pay off your debt. Um, it also will allow you to keep certain assets that are important kind of to daily life, like uh your home. So if it's uh a mortgage situation, you might be able to keep your home still. Um, and then with uh if it's an auto loan, or if there's anything tied to that, you may be able to keep your vehicle as well. So those are just kind of things that may be a reason why you want to go with chapter 13. And then when you compare chapter 13 to 7, 2, another big difference why some people choose chapter 13, uh, just for example, student loans are not forgivable for bankruptcy. So student loans are stuck with you for life, basically. And and technically they will go away if you pass away. But if that's the case, and if that makes up a majority of your debt, it probably doesn't make sense to do chapter seven. If a majority of uh your stress is gonna be with those student loans, so that's when a lot of people start to consider chapter 13 over chapter seven. Is if a majority of that debt's not gonna get uh wiped out, you're not gonna get that true fresh start, then it may not make sense. So hopefully all that information is helpful. I know we tackled a whole bunch of different things. Feel free to reach out if you have questions. Uh, try to make this as compact and as kind of value-packed as possible for you. Um, but yeah, listen to this. Make sure you listen to other episodes too, because I think that's the best way to level up your financial confidence going into 2020 is not to just listen to one milk, oh, that was good, that was okay, um, and not know what the next step is or how to kind of constantly be improving. Uh, you should be improving every single day across various aspects of your life, but this is one way to help you get that jumpstart for 2020 and your financial confidence. Thank you for listening to Techie Personal Finance Bootcamp. Remember, if you like what you've been hearing, to subscribe, review, and share with your friends and colleagues. If you want to take your connection to the show to the next level, you can find me on LinkedIn or on Facebook. Catch you next time on Techie Personal Finance Bootcamp.