Only use debt to grow future earnings

TL;DR: Debt should only be used to make investments that will pay off in the future. Used wisely, debt can create the leverage you need to accelerate your career, life, and investments. Used poorly, and it can become an unbearable burden with the potential to blow up your future self. Bad debt decisions are made every day by people buying depreciating assets (like cars). For many, the largest and arguably worst example of this is student debt – many go into debt getting an education that has little prospect of increasing future earning power. If you’re going to go into debt for an education, make sure it’s one that will have a positive ROI and a good prospect of paying off the debt quickly!

For the last decade the student debt ‘crisis’ has been simmering, and it feels as if it will boil over at some point in the next 5-10 years as more people default, in one way or another. The fundamental issue is that tons of people have purchased an ‘education’ by going into debt. This wouldn’t be a problem if the education actually added to their future earning potential, but in many situations that isn’t the case. The result is that folks of limited means are left holding a bag of debt and a piece of paper (assuming they even completed the program) with questionable value.

So what’s the lesson here? Quite simple. Never take on debt for anything but an investment in greater future earning potential. What this means is that if you’re going to take out debt you damn well better know how that investment will generate a return for you, and you should have a pretty high degree of confidence in that return.

In the case of educational debt, the unfortunate truth is that unless you’re at an Ivy league school, getting a degree in English Literature won’t generate much real world earning power. This isn’t a value judgement on the intrinsic worth of an English Lit degree, it’s just a statement of fact. An english degree, on its own, from a mid-level university won’t help you stand out or land a high paying job. That makes it a pretty bad financial investment, and therefore a bad use of debt.

As a counter-example, taking on debt to study medicine is probably a tradeoff that will work out pretty well (though I can tell you first hand that it’s not necessarily the ticket to riches that everyone imagines). Sure, you might spend $200-300K getting the medical degree, but once you graduate you’ve got a reasonably high chance of making well above the median income for your location. So in this case, taking on debt makes sense.

This principle applies to all other areas of life as well. If you’re using debt, make sure it’s on an investment that will pay off in the future with a pretty high degree of confidence in that payoff.

Using debt to buy a car, or television is probably the worst thing you can do. It’s taking money you don’t have and spending it on a rapidly depreciating asset. What’s worse is that if you’re buying something like a TV with debt, it’s likely on a credit card that has an astronomically high interest rate. I would almost kill for a return of 20%+ on my money… which should explain to you how bad it must be for someone to hold credit card debt that is accruing 20%+ in the opposite direction.

At the end of the day, it’s a pretty simple principle to live by: Stay away from debt unless you have an investment that will yield a high probability of return. This is particularly true with things like an education – arguably one of the largest expenditures most people will make before the age of 30. If you don’t follow this advice, you run the risk of taking on more debt than you can handle and setting your finances and life plans back for years or even decades.

Life is too short for that.

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