Moneywise24 Personal Finance

Most people have a tremendous fear to be broke, or to become broke at some point in their lives. But what does it actually mean, to be “broke”? And how can we prevent from getting to that point, where we have to call ourselves “broke”? When it comes to the understanding of many people, being broke means simply not having any money to spend.

This week, however, the Greek government agreed on radical savings measurements, which resulted in European Banks and the IMF to be willing to lend Greece an additional 3.2 billion Euros. Greece does not have any money to spend, else it wouldn’t need any additional loans, so in a sense Greece is as broke as one can get. Yet, the additional 3.2 billion Euros did something interesting: it saved Greece from bankruptcy.

Similarly, Donald Trump wrote in one of his books, that at some point in his life, he found himself being in dept so much, that he envied the homeless people on the street, who theoretically had more assets than himself, even if it were a few Dollars. Still, The Don is one of the richest men, and he didn’t end up on the streets.

So, there must be something else going on. Something beneath the surface, something secret.

Assets and liabilities Read the rest of this entry →

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• Flirting With Debt

When I read through many personal finance and money management blogs, I feel that a great importance is being put on reducing debt and leading a debt free life. I do agree with many standpoints about leading a debt free life. But still, I also believe debt can provide a true benefit, depending on the kind of debt, its use, how it is being paid back, and what it is used for. I call it flirting with debt, because debt can contribute to a particular life quality, but it can just as easily ruin families.

Remaining liquid

In the world of accounting and finance, there are this magical word liquidity. Liquidity simply refers to one’s ability to pay debt when required, and in terms of accounting this is usually measured by using the quick ratio. The quick ratio expresses the amount of units available in relation to one unit of debt. The formula is the following:

Quick Ratio = Total Assets / Total Liabilities

I tend to see liquidity as a form of insurance: I have the ability to repay my debt instantly whenever required. How one calculates his total assets might be different for each person. Myself, for example, I include cash, cash equivalents, stocks, and stock options. However, I do not include my mutual funds, which are meant for retirement purposes, as part of calculating the quick ratio.

Also, I tend not to put too much value on my current salary, simply because I know that salaries can change, or in bad economies companies might cut back on jobs. If I can pay for my debt now, there is no guarantee that I will be able to do so in one year from now.

The intention to grow

I intend to grow, and to further develop, at a financial level, but also regarding my health, or at a spiritual level. For this reason, I closely watch what the debt is intended for.

If a loan is simply used for an expense, which is likely to decrease in value over time, or of which the costs will be greater than the increase in value over time, it is quite destructive. I feel buying such items with a loan is merely an expression of my impatience of not being willing to wait to buy the item when the funds are available. Even worse, I would be willing to pay an extra fee, in order to pay the loan amount of a greater period of time, leaving me with a lesser amount from my income each month, and thus decelerating my growth and financial development.

What I would be really looking for is acceleration of my financial development. This means, that if I take a loan, it should provide a real financial benefit. Not only should there be a benefit over the long run (e.g. increase in real estate price, or the increase of value of a rare wine), but it should also cover for my monthly expenses, leaving a little bit extra.

Payments due vs. return

So, when thinking about taking a loan, I ask myself one important question:

Is the monthly return I get from the item going to fully cover my monthly payments?

The item I buy using the loan needs to have a true benefit, that can cover for my payments. For example, I have quite a huge loan which I took in order to study for my Bachelor’s degree. Had I not taken the loan, I would not have studied, and I would have earned at least 30% less with a job I probably would not like. Therefore, the loan has paid out, and it is directly visible on my monthly paycheck.

Alternatively, this question could be asked for virtually each and every item. And even if there is no return at first sight, could there be a possibility to create a return from it? Take real estate for example: I could buy a home in order to live in it, and it would provide me with no income; or I could find someone to rent it, and have an income from that.

The use of credit cards

Generally, I consider credit cards also as being a loan. Why? Because I can buy an item now, and pay for it next month. I do track all my finances, and I know exactly how much I spent using my credit card, so I always know that I can pay for my bills at the beginning of next month. However, many people don’t. In fact, many people need to pay for their outstanding credit card payments in installments, which can be extremely expensive.

I use my credit card as a sort of an emergency account. If I quickly need something, urgently, and I don’t have the money for it now, then I’ll buy it (for example I need a white shirt for tomorrow’s job interview). But as soon as I can postpone the purchase for a month or two, I will postpone it.

I find debt a useful instrument in order to grow financially, and I tend to look at it as another tool for accelerating growth. Still, debt is to be handled very carefully. If it is constructive, and it can contribute to my income, I would consider taking it. Still I would carefully consider my liquidity as well as some worst-case scenarios. What would happen if I’d lose my job? What happens if I get sick and I can’t work for 2 months. What happens if my stocks drop by 50% in value during another recession? Similarly, I tend to stay away from destructive debt, unless it cannot be avoided.

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• When Are You ‘Broke’, And What To Do About It?