A while back on this site I wrote about my distaste for debt. For example, our bank owns close to half our home. Sure, there is “good debt” such as borrowing money for an appreciating asset (like a house) but a mortgage limits our cash flow for investment purposes, even with the low mortgage interest rates of today. Debt payments limit some of our options on how we can spend our money and therefore our time. Without debt, our income could be used to buy more appreciating assets (like more dividend paying stocks or equity ETFs) to fund our financial future. Instead, a good portion of our income services debt today. With debt we pay other people first.
Recently Statistics Canada announced that the ratio of household debt to disposable income in households rose to record levels. Credit cards are the usual suspects when it comes to debt, with mortgages and lines of credit along for the ride. I suspect it’s easy for folks to fall behind on debt payments because using credit is just so damn easy.
How could you get out of the red and into the black? Here are two suggestions and things we’re doing for what it’s worth.
1. We budget, kinda
We don’t use a formal budget but we do forecast expenses on a bi-weekly basis. Here is an example of what we do:
We ensure we spend less than we make every month. You can also see in this table that pay ourselves first. Paying ourselves first is part of our budget forecast. Some of our funds go to savings for upcoming expenses. Some of our funds go to fun (i.e., REDBLACKS tickets). Some of our funds go directly to investments, including dividend paying stocks and indexed ETFs.
2. Our take on debt stacking vs. debt snowball vs. highest interest debt first
With the debt stacking method there is a list of all debts from the highest interest rate to the lowest, and minimum payments are made on all of them. Extra cash is diverted to the highest interest rate. You work your way down the debt list from there.
With the debt snowball method you focus on killing your small debt first, working your way towards the highest payment. The idea here is that paying off a small debt can build momentum and snowball your way to larger debt issues.
Then there is the method of simply focusing on your highest interest debt and slaying that dragon first and foremost. Again you can work your way down the debt list from there.
Personally, I don’t think there’s an absolute right or wrong way of tackling debt. We’re fans of getting rid of all high-interest debt first. That means we strive to never carry a balance on our credit cards. If we have any outstanding on our line of credit that is tackled next. Lastly we pay down the mortgage including the use of mortgage prepayments after contributions to investing accounts such as TFSAs are maxed out.
Those are things we focus on. Stay tuned for part 2 of this debt theme where I discuss making debt tax-deductible and where you can learn more about managing debt.
How do you tackle debt? Are you out of debt now?