The other day I was listening to this podcast and they made a comment that keeps nagging at me. “If you have personal debt, you should not invest. Period.”
Outchhh! It’s not the first time I’ve heard it, but this time, it felt so personal! Like I’ve been called out! It probably felt that way because it came from someone I highly admire in the real estate community.
I have $44,000 in student loans, so clearly I am breaking that rule. What a fraud. Here I am preaching real estate investing and breaking the #1 rule! I started to question my whole approach. I must be doing something wrong, clearly.
But hear me out…
If I sit here and wait until I pay my $44k in student loans before I buy another investment property, opportunities will fly by and by the time I am ready, I’d be way behind.
My student loan interest is 4.5%. If I can make 15% back from my investments, then use that extra money to accelerate my pay-down, wouldn’t that make sense? It could…
Here is how…
I’m going to get geeky on you here, but as an accounting nerd that I am, I have to walk you through my train of thought.
There is an accounting concept called “Opportunity Cost”. This cost is basically the loss incurred from not making a specific choice.
Using my student loan pay-down vs investment scenario. Let’s say I have a $1,000 to a) pay down student loans or b) buy real estate.
At 4.5% interest, I’d save myself from paying $45 in interest.
At 15% return, I’d earn $150 minus $45 of student loan interest, I would net $105.
If I decide not to invest, I’d be losing out on $105. That’s my opportunity cost. The cost of not making the decision to invest the $1,000.
If I had credit card debt with 24% interest rates, then that wouldn’t really make sense.
The way I think of it is… If I invest and make more money than I would otherwise spend, then I can use that gain to pay down my student debt faster.
I’m a numbers person and that is how I justify financial decisions.
Do the numbers make sense, can I financially afford it? will this put me in a tight financial position?
It is important to note that my current financial situation allows me to make extra student loans payments while having sufficient cushion to invest and increase my potential earnings.
Making a conscious decision to invest rather than pay personal debt needs to make financial sense. You must understand what you are gaining versus what you are losing. In other words, your investment returns need to be higher than your interest in the debt.
The possibility that your investment may fail must also play into the equation. What if the investment goes south? Will you be in a financial position to cover both, the losses of your investment and your debt? The answer to this question is often “NO”. I think this is why most people recommend against it.
There is a lot of risks associated with real estate investing. There is just so much that can’t be predicted like COVID. If you put yourself in a very tight position without really understanding the risks, it might end up becoming a nightmare.
Obviously, I’m not following the general advise, but I am also making conscious decision taking into account various possibilities.
It is a risky financial decision and not to be taken lightly. For most people getting rid of all personal debt is 100% the best option.
Conclusion, do what makes sense for YOU. Get YOUR facts and make a conscious decision based on that.