The hidden cost of debt
“Only those who risk going too far can possibly find out how far they can go.” – T.S Eliot
Four years ago, I bought a house. Those of you who have read my posts before will know that my adventure in homeownership is a cautionary tale involving some bad decisions and a couple of very large financial curveballs that resulted in the accumulation of a large amount of debt. I believe very strongly that things happen for a reason and that life lessons are repeated until learned so I have made it my mission to ensure I will never make the same mistakes again. Falling into that particular hole wasn’t fun and pulling myself out of it is not an experience I need to repeat! Twelve months ago I committed to getting what Dave Ramsay calls “gazelle intense” about conquering the debt mountain and I’m happy to report that the mountain is currently disappearing at a rapid pace which feels amazing.
Related article: How to reduce your debt?
One of the things I’ve noticed as I’ve been making changes and making progress is that when people talk about the debt they talk about it in terms of dollars owed; the balances, the minimum payments, the interest charges, and the penalties. This is understandable but there’s another aspect to accumulating, carrying and paying off debt that I’ve become very aware of and which doesn’t seem to get as much attention; the cost of lost opportunity.
No savings = no returns
When you’re carrying debt, your ability to save is compromised. The money that could have been purposed for saving and investing is redirected towards the cost of carrying debt and typically, that amount increases over time as credit limits expand and our day to day lives get more expensive.
When I arrived in Canada, I was 24 years old and the only debt I had was a small overdraft and student loans (both in the UK with very favorable repayment terms). I wasn’t earning very much but I didn’t have a car and my living costs were low so, relatively speaking, I had a decent amount of discretionary income. As my income increased though, so did my spending and once I became a permanent resident, the credit offers started to present themselves. Had I been a lot wiser and a little less impulsive I could have channeled that extra income into building assets rather than carrying debt. Had I chosen to do so, my situation today would be dramatically different. That $50/month credit card payment, invested at 5% for 15 years would have netted me an extra $13,295 in my account today (not including any tax deductions). I know that’s not a huge amount but I’d much rather than money was in my pocket than boosting the bottom line of my credit card provider.
The really painful numbers come when you start to factor in the payments that go along with carrying much larger amounts of debt. $500/month invested at 5% for 10 years gives you a “lost opportunity” value of $77,496 and $1000/month invested at the same rate for the same period of time is a scorching $154,992. All told, I’m guessing that my little debt misadventure probably cost me somewhere in the region of $200,000 in a lost opportunity. Ouch!
The power of time
The real problem though is that, as hard as those numbers are to swallow, it gets worse when you start looking forward. That $13,295, continuing to grow at the same rate for another 20 years would be worth a little over $35,000 to me at 60 years old. The $77,496 could have grown to just over $200,000 and that $154,992 had the ability to keep growing to become $411,240. You see, the true price of debt isn’t what it will take you to get every balance to zero; it’s what it will take to get you caught up to where you would have been if you’d have totally avoided the hole in the first place.
When it comes to building wealth, time is your most powerful ally. Time is what allows compounding to work its magic. Time is what makes the biggest difference between hitting your goals and missing by a mile. The power of time is what I underestimated when I chose to build debt instead of assets. Now, I’m 15 years (and $200,000) behind the smarter version of my 24-year-old self and it’s next to impossible to catch her because as long as we’re saving at the same rate, she will only get further and further ahead.
Perhaps it’s because the lost opportunity is hard to quantify, perhaps it’s because we don’t really want to think about it, perhaps, it’s simply that when you’re dealing with debt, what you’re confronted with most often is the dollar value of what you owe and how much it’s increasing. Whatever the reason I wonder if it’s the part of the debt equation that might be most effective as a deterrent to those young people who are tempted by the lure of easy credit and a lot of options for spending. I wonder if I had an opportunity to share with my 24-year-old self that choosing the instant gratification of credit meant giving up $200,000 at 39 and over $500,000 at 60 if her choices might have been different. I’d like to think they would have. For now, I’m choosing to pursue my smarter 24-year-old persona with “gazelle intensity”. It might be tough to catch her but that’s not a good enough reason not to try.