It might seem logical that the people who struggle with high debt levels are those who don’t earn enough money to pay off their obligations. While that may be true to some degree, a large number of high earners also carry significant debt. Some of that debt may be investment debt, incurred to generate additional income or profits, but it also includes consumer debt such as personal loans and credit card debt.
But why would those earning high-end salaries want to be in debt at all? Here’s a look at the ways that wealthier people create debt for themselves and the reasons behind it.
While some financial pundits say all debt is bad, most acknowledge that when used to generate a positive investment return, taking on debt can actually provide financial leverage — and it often provides tax benefits as well.
If you’re wealthy enough to invest in an apartment complex, for example, you’ll still likely need debt to finance the bulk of the purchase. But if you can borrow money at, say, 8% but receive a rental return equivalent to 20% of your investment annually, you’re making a significant profit — and you won’t even have to risk much of your own personal capital. That can be a strategic use of investment debt, and it’s one of the primary reasons high earners can have a lot of debt.
The economics are different when talking about buying a personal home, but there are still advantages to using debt in the form of a home mortgage. For starters, a home mortgage is likely the lowest-rate loan you’ll ever get, as your property serves as collateral. And every month that you make payments, you’re increasing the equity in your home.
But you also can take a tax deduction for the interest on your mortgage, along with a number of other housing-related payments such as property taxes. And, as you make your payments, you’ll build your credit profile and demonstrate to lenders that you’re a good financial risk. For these reasons, home mortgage debt is often classified as “good debt.”
Consumer debt is a very expensive way to finance your lifestyle, particularly if you’re a high earner. According to the St. Louis Fed, as of August 2023, the average interest rate charged to accounts that were assessed interest was 22.77%. That’s more than double the long-term average annual return of the stock market.
While it’s somewhat understandable that those having trouble making ends meet resort to using credit cards, even though it’s a poor financial practice, it makes less sense that high earners would rather hand over money to a bank than keep it in their pockets. Still, it happens quite frequently. According to a study from Bankrate, an incredible 38% of those earning more than $100,000 reported having credit card debt.
Part of the reason for this phenomenon is that wealthy individuals enjoy living the best life they can, just like everyone else, even if it results in overspending. According to the survey, 22% of the highest-earning households cited vacation and entertainment expenses as the primary reason they incurred credit card debt.
But another reason might simply be the real-world economics of living an expensive life. The survey notes that a whopping 49% of workers earning six figures described themselves as living paycheck to paycheck, which can make it hard to pay off debt.
Ways To Keep Debt Under Control
Regardless of your income, it’s important to understand how to control your debt balances. Even if you’re primarily incurring debt for investment purposes, if you let it get out of hand, it can be the same albatross that consumer debt is. Here are the steps you can use to keep your debt balances manageable.
Watch Your Budget
Whether you’re investing in a condominium complex or simply living day to day, it’s essential not to spend more than your budget allows. If you let costs overrun your property investment, it will directly eat into your profits and potentially push you to a loss. If you spend more than you take in as an individual, your debt balances will continually increase. Coupled with the high interest rates on consumer debt, that can rapidly create a financial spiral that you can’t escape.
Borrow Only What You Absolutely Need
Particularly when it comes to high-rate consumer debt, it’s critical to borrow only what you absolutely need. It’s also essential to understand what “absolutely need” really means. If you’re two days away from being evicted, for example, it may make sense to temporarily borrow some money to keep you and your family sheltered. But if you think you “absolutely need” to buy the latest iPhone, you need to reexamine your relationship with money and spending.
Regularly Monitor Your Balances
Debt always comes with interest payments; and, if you don’t keep on top of them, your balances can rapidly spin out of control. Imagine you have a $10,000 balance on a credit card charging a 23% interest rate and you plan to pay off $200 per month. Rather than taking 50 months to pay that balance in full, as you could at a 0% interest rate, it will instead take you 168 months — and the total amount you’ll pay will be $33,479, or more than triple your original balance.
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