Getting Your Head Above Water

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I hate debt. Unlike many fellow average Canadians who’ve racked up over 165% of their gross income in debt, I try to avoid it like the plague. That feeling when you owe someone a lot of money just doesn’t sit so easy in my stomach.

I guess I can say I was very fortunate to graduate with no debt at all unlike many university students that go to school now. I made the decision to forgo my summers in high school to work and save money and I also made the decision to go to a university that offered paid co-op semesters. Those two decisions might have been the two best financial decisions I’ve ever made in hindsight.

Debt can slow you down, especially if you have just graduated and have over $25K in student debt, which apparently is what the average Canadian student has upon graduation. It’s no wonder that Millennials “fail to launch” because they have accumulated so much student debt through post-secondary education.

To that, I say there is nothing wrong. Having debt from school isn’t the worse kind of debt that one can have. Investing in yourself is important in the long run. If anything, you are the biggest engine that can contribute to your financial success. Not anyone else.

The difficult task to tackle after getting gainful employment is figuring out how to tackle that debt. Should you pay it off aggressively? Should you only pay the minimum? Can you even have a life while paying debt? These are all good questions.

First Steps

Family Playing Together Outside During SummerDebt is bad, but that doesn’t mean that you should go crazy paying off student loans right away. This is particularly important if you find yourself living on your own and having to provide for yourself.

The government of Canada actually allows for a 6 month grace period before being required to pay off your student loans. Even though you are not required to pay, interest will start to accrue on your balance immediately. If you’re in provinces like Alberta or Ontario, you might be the only lucky ones where the provincial portion of your debt will not accrue interest during the 6 month grace period.

When you are starting off in your career, or life in general, it’s a good bet to accumulate some sort of emergency fund. 3-6 months expenses is important. That way should you lose your job, or find yourself in some unfortunate financial bind, you don’t have to go borrowing even more money to survive.

That’s why it’s important to do a monthly budget and figure out at the bare minimum what you would need to get yourself back on your feet should something bad happen. The unfortunate fact in life is that there is always a big life event that will ruin your financial plans. Be ready for it!

While doing that it’s important to look at the debt that you have outstanding. It might be that you have more than student loans. Bank loans, credit card debt, or even money borrowed from loved ones might also be on the books as entities that you owe money. Figure out how much you owe, how interest you are paying on your loans and the minimum payments that you need to make for each one. It’s important to keep up with the payments schedule so that you don’t end up destroying your credit score which could lead to more complicated financial situations in the future.

Pay Debt Or Invest?

I get this question asked all the time. Interest rates are at an all time low, while markets and houses keep rising in value. Doesn’t it make more sense to invest the money rather than paying off the debt?

This really depends on just what your interest rates really are. It’s also important to note how long it will take to pay off each of your loans. Imagine a scenario like this.

debt

There is no argument here that credit card debt is damning. I would almost classify credit card companies as straight up loan sharks for the absurd rates that they charge, but as a rule of thumb, never ever have outstanding credit card debt! No matter what kind of investment you think you could make, it will never reach a 19% annual return over a 15 year period. If you really think houses in Vancouver or Toronto can actually achieve that kind of return, then please get your head checked out by a psychiatrist. Seriously.

When it comes down to paying off that student debt, it may seem tempting to invest rather than paying it off quickly. That’s because a 5% interest rate seems lower than a long term return of over 9% for the stock market. While this might be true, we’re looking at only a 5 year time frame to pay off the loan. In my books, a 5 year investment term is too volatile to have a 9% return on equities. In fact, 5 years is not even a long investment period. You’re probably reading that and thinking I’m crazy, but if you’re investing within a 5 year period you should really be investing in GICs and bonds to avoid volatility. If it came down to investing in GICs or bonds versus the loan, it’s probably better to pay off the loan.

This brings us to a line of credit carrying 8% interest for 10 years. Though in the long run the market might outperform the loan by 1%, I hate debt. To me it would seem stupid to try to get a 1% gain over paying off a loan that I have to pay 8% interest on. To me it would seem like a no brainer to pay off that small amount rather than having life-sucking interest taken off my bank account.

Avoiding More Debt

One of the hardest things to do resist after you have taken debt is to avoid taking more. It’s always so tempting to borrow money for a vacation, the latest iPhone, or maybe that pair of shoe that you think would go perfect with that new outfit. The fact is, debt is addicting and the banks are more than willing to lend it to you so they can feed off your bank account like leeches on your body. Heck they are already making over $1B quarter! Do you really want to give them $1B more?

When you’re just starting out, it hard to avoid all the temptations that come along. With more money means more responsibility. Get in the habit of paying your debt off, start saving and as your career progresses and cash flow starts to increase with raises and promotions, then the wonders of investing and luxuries will come to you.

 

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