When to take on debt?

[thesmartnickel]

I was wondering if there are ever any situations where it would be good to get a loan even if you had enough money to pay for something on your own. If you have the money but it is tied up in investments, should you liquidate however much you need instead of taking on a loan? If interest rates are low and you think you can earn a higher after-tax rate on your investments, should you take out a loan and invest your own money? Or should you always just try to avoid it when possible?

[disneysteve]

I think the answers will vary depending on the individual. Some, like Dave Ramsey most famously, are totally opposed to debt (except mortgages) at any time for any reason. Others are more moderate and realize that cash flow, interest rates and leverage can be good things if used properly.

I have borrowed money to make purchases that I could have made with cash because I felt there was an advantage to borrowing. The simplest example is 0% financing. If the price of the purchase is truly the same, take the 0% deal. Just be sure to pay it off in time to avoid the financing charges. Sometimes, though, the 0% deal isn't real. For example, furniture stores love to advertise 0% but in the small print somewhere, it usually says you can get a 10% discount for paying cash, so the "free" financing isn't free at all.

Interest rates and tax deductions can also make a difference. That's why many of us have a mortgage. We have more than enough in savings to pay off our mortgage at any time but between the low rate (3.99%) and the tax deduction, our investments earn more than we'd save by retiring the loan early.

You just really need to be on top of your finances and have everything else in order and be sure you aren't borrowing for things that you can't really afford.

[BuckyBadger]

I agree with Steve.

Three cases in point:

1) We recently refinanced our home. After taxes, our rate is just under 2% to borrow that money. If we devoted ourselves to it, we could pay off the entire house in 6 years. (This would mean no taxable investing, although our retirement accounts would still be maxed out.) Not only that, but when we refinanced, we rolled our HELOC into the mortgage to lock that money in at a lower rate. Honestly, if I could have, I'd probably have cashed out even more. I doubt I'll be able to borrow money at 2% for very much longer...

We have absolutely no plan to pay off the house any sooner than necessary. We are in our early 30s and feel like we will get more out of our taxable investments over the next 30 years than the 2% we would be getting if we paid extra on our mortgage.

2) We just bought a new car. We could have paid cash for it, but the rate was so low that we decided to finance it, for exactly the same reason that I stated above. This one I may pay off early just because I feel slightly different about mortgage debt than I do about car debt (an entirely different discussion) but even if I only make the payments, it'll still be done in 3 years.

3) We have a 0% credit card with Best Buy. We use it. We pay it off before interest gets charged.




Some people have a personal thing against debt. In that case, they often pay off debt even if it isn't the best thing financially. (I.e. people who pay off their mortgage early before saving for retirement in tax advantaged accounts. Drives me batty to read about it, but some people feel REALLY Strongly about debt...

Other people can use debt to their advantage in a reasonable and responsible way.

[thesmartnickel]

I perfectly agree with the 0% financing and I have no problems using my credit cards (I don't even pay much attention to my APR because I always pay off the entire balance in time). I was just curious from the standpoint of larger expenditures and whether anyone took out loans while keeping money invested to essentially earn some more money.

Thanks for the replies and I guess I'm also curious how many people feel like it is worth the risk with inflation and the uncertainty of the markets. I guess it depends on your risk tolerance as well.

[Kooshiball]

If I can borrow money to invest, then I definitely would since rate is so low.

[Ima saver]

Several years ago, I was earning above 5% on my savings. My husband needed a new work van, so we financed it at less than 2% interest. I felt like I was still making 3% on my money.

[bjl584]

0% interest is probably the best example. But, any situation where you can earn more on your money than you would pay in interest on a loan would make a good case for financing even if you could pay cash.