Why it is so important to get out of debt and to start investing

In 2005, I had 50K in the taxable stock market.  How did that happen?  We got rid of DH’s debt really quickly by living on beans and rice (more accurately, potatoes and marked down produce).  Then we lived like regular graduate students and kept our expenses low.  Finally, we saved up the money we would have spent on rent for two years from when we were resident assistants.  That’s where the big money came in.

This post isn’t about how we got the 50K though.  I’m not actually sure how much we put in (I don’t have the cost-basis information at hand), though I’m fairly sure it was less than 50K (probably more like 36-40K, because that’s what we saved on rent).  This is what happened *after* that 50K.

In 2005, I got a real job that allowed me more room to save for retirement than I could use.  That meant I stopped putting money in the taxable stock market and put it all in tax-advantaged funds.  So that 50K from 10 years ago is a point-in-time snapshot.  It’s all in index funds and ETFs (mostly the S&P500 and Nasdaq, with a little bit of the Dow– essentially your three major ways of measuring the market).  Earnings are all set to DRIP.  I haven’t added anything to it, I’ve just let the money ride.

10 years later (as of this writing), that portfolio is worth $126,000.  That is double and a half.  252% of what it was 10 years ago.  That’s including the worst recession since the great depression.  I just let the money ride all the way through (even/especially during the dark time when it dipped below 40K).

Contrast that with DH’s unsubsidized student loans at 8.5%.  He owed 10K (quite a bit more than he actually borrowed).  If, instead of paying those loans, he’d deferred them during graduate school, he would have owed $15,227.95 at the end of that deferment.  That’s a 50% increase.  If he had followed their suggested payment schedule after that, 5 years from now with his last payment he would have paid a total of $26,992.80 on that 10K loan.  That’s a ridiculous cost for borrowing money.

I can’t even comprehend credit card levels of interest, which average around 15% and can get much higher.  Just that 8.5% student loan had me literally hyperventilating when I found out about it.

The downside of high interest debt is that it takes money away from you without you getting any benefit from it.  It puts you in a precarious situation because you have to make those payments (or go through a lot of heartache and hassle to get them deferred or negotiated down via bankruptcy)

I was running through the thought exercise about whether or not we could live in Paradise on just DH’s take-home salary (something we’re not doing next year) if we sold the house and the answer is that after the big expenses rent, daycare, health insurance, and retirement, we would have about $1050 left to spend on everything else, from car insurance to riotous living.  Currently we spend 2-4K on everything else.  That would be a pretty big cut.  But… we have a lot of money saved.  And that money is making money.  We could stop contributing to retirement at this point and we might still be ok, so long as we picked it back up after the daycare expense was gone.  We could undrip our taxable stocks and that would bring in some income.  We have a cushion that would last us until I found work.**

We’d be ok.  And although having this cushion/buffer/etc. did take hardship and sacrifice early on, having killed the debt and invested a bunch means that money is now working *for* us keeping us from having hardship and sacrifice now.

High interest debt takes money away from you without giving you anything in return.  Investment gives you money without you having to do anything to earn it.  Make your money work for you.  Sacrifice and save early so you don’t have to sacrifice more later.  And early can mean today, because today is always earlier than tomorrow.

Compound interest is amazeballs.  Unsubsidized debt sucks potty words.

Have you experienced the joy of compound interest or the drain of high interest debt?  How did you get there/how did you get out?

**Not that I have *any* plans to quit my job!  But I did have this horrible worry that I would get squished by a semi truck while biking to work next year and DH would have to fend for himself without my half salary.  Then I remembered that he’d also get 500K from my life insurance plus funeral expenses from my work insurance which should tide him over until he decides which city he wants to move himself and the children to after the year is up (oddly, he refuses to make that hypothetical decision now and says I’m worried about unlikely events because I’m stressed about the move!).  So the exercise was moot.

21 Responses to “Why it is so important to get out of debt and to start investing”

  1. First Gen American Says:

    To sum up, the two main things that were different about me vs many of my peers is that I had my Toyota Corolla for 10 years instead of buying a fancier car (and people often made fun of its lack of features and power). I also had roommates up until and even after being married, so my living expemses were 1/2 of most people’s. And most of my apt stuff was old or from tag sales.

    20 years later, I slowly accumulated nice stuff. Nice rugs, nice furniture (much still used though), nicer neighborhood…I didn’t need to have the perfect everything right out of the gate like they do on those hgtv shows. It was 15 years before we had a bedroom set that matched and that one we bought on Craig’s list.

    There is no way I could have made some of the choices I made if I were impatient about when I reached certain stuff milestones.

  2. Leigh Says:

    In 2005 I think I had all of 2k to my name? My mom said stocks were terrible and I should never invest in them. I’m glad I haven’t listened to her on that.

    What you’re describing now is what “unnecessary” savings buys you – freedom. Not everyone wants early retirement, but freedom is still pretty sweet.

    I don’t have any accounts that I’ve just left on autopilot and ignored like that, well except for the 10k+2k I put into my taxable investment account a few years ago that’s now worth 16-17k.

    Not spending is a great form of compound interest though. My spendy friend recently bought a new car for ~$70k that I assume came with a loan. She tried to convince me it was time to upgrade too. I think I’ll stick with my now five year old car for another five years or more… That $70k can go quite far not spent on a car.

    Before my boyfriend moved in, I asked him if he wanted the condo if I die. He told me to not be silly and stop thinking about that and that he’d rather find a new place to live.

    • Debbie M Says:

      Ha! My boyfriend would definitely love to have my house if I die first! Isn’t it great knowing these things ahead of time?

      • Leigh Says:

        Interesting! I asked him because my current will setup would see the condo sold and the proceeds of my estate and life insurance going to my family of origin, rendering him homeless. My work life insurance is a bit less than half his base salary now, so some day I might make him the beneficiary on that if he doesn’t want the condo, to give him some time to grieve before going back to work.

    • Kellen Says:

      I told my boyfriend he definitely will get the house, because he will also get the dog, and she needs the house to live in :)

  3. Debbie M Says:

    My debt drains included student loans (low interest), a car loan (medium interest), a house loan (medium interest), and accidentally not paying credit card bills on time a few times. I now get my education for free or for cheap paying up front (since I don’t need any more degrees). I now buy my cars super used for cash. And it’s actually good that I got that house loan (with basically no down payment–virtually all of my $5,000 went to various closing costs). And that’s because housing values went up way faster than my income did and people are still moving here. So the potty-word-sucking debt has not been too bad for me.

    The amazeball-ness of compound interest/capital gains started for me when I decided to invest what I could afford to completely lose (I used to be afraid of the stock market)–$75/month. But when the Roth IRA was invented 17 years ago, I switched to that and have maxed it out every year but this year. I’ve now contributed $64,000. As of July 1, I had $141,000. So it’s more than doubled even though I have much less long-ago money (the max used to be $2,000) than more recent money (my max last year was $6,500). A 4% withdrawal rate allows for $470 per month, about 1/5 of my pension (which, admittedly, I’ve been contributing to much longer). This was nowhere near enough to retire before I qualified for my pension, which made me sad. But even if I blow my whole contribution (just the $64K) on renovating my house, I’ll still have plenty left to help me out later, when inflation outpaces my pension and/or pension + Social Security.

    Warning: I veer off topic ahead. Feel free to skip the rest.

    Mostly I feel that inflation wipes out a lot the thrill of compound interest (too bad you pay taxes on the whole gain in taxable accounts instead of just the inflation-adjusted gain). So my favorite thing about the Roth is that it will never be taxed (rather than that it keeps growing). Of course taxes have only gone down a little for me since I started contributing, but I can’t help but think they’ll go up again in my lifetime.

    I also like that discount brokers and low-fee index funds make the stock market affordable even if you’re not rich. I wondered if this meant that rich people were now making money in other ways, but nope. Sure, they still have their own businesses but they also still invest in the stock and bond markets as well. So although rich people are grabbing bigger and bigger pieces of the pie, one of their tools for doing that is very affordable for non-rich people who can nevertheless scrape together something to save. And having access to that tool definitely makes me feel more secure than I would otherwise because some of those people using their power for evil are using it cause stock prices and dividends to grow. And they use it for insider trading, which hurts other stock holders, but I don’t think it’s too bad (yet?) for index fund owners.

  4. middle_class Says:

    I have a rollover IRA from my last job. I haven’t put money in it for 12 years. It’s sort of my experiment to see how much it can grow without added money. I think it’s doing ok, but I haven’t figured out the % of gains yet.

  5. chacha1 Says:

    I have roughly $225K in my 401(k) and I believe that I’ve personally put less than $50K of that in there. The rest is profit-sharing and growth. I’ve worked in more than seven jobs where I was eligible to contribute to a 401(k), contributed every time, and always rolled it over instead of cashing out when I left a job.

    (Cashing out = one of the stupidest ways short-sighted working Americans lose wealth.)

    Opinion: many, if not most, working Americans will have lower incomes in retirement than they do while working. So my personal recommendation is to max out any and all tax-advantaged investment options (i.e. make pre-tax contributions) before considering any taxable investments.

    Also, filling out the capital gains income-tax forms is a giant PITA, and keeping track of cost basis is even worse.

  6. nicoleandmaggie Says:

    Please don’t get squished by a semi. ALways wear your helmet. (end PSA)

  7. Miser Mom Says:

    This post leaves me wistful, but not for myself. I wish my daughter would read this . . . I wrote a long explanation about why, and then thought better of it and deleted it. ’nuff said.

    Agree that it’s not good to get squished by semis, and wearing a helmet is a yes.

    • nicoleandmaggie Says:

      While helmets will guard my fragile skull from ordinary road dangers, I’m not sure they’ll be much help when it’s me vs. a renegade semi. That’s why we pay big bucks for life insurance.

  8. Leah Says:

    Yes, yes, yes on debt! I only took out grad school loans because they were subsidized. I paid the entire $13k bill the week before I had to start paying interest.

    The only money thing I wish I had done earlier was start a Roth IRA. I wasn’t sure how to do it and didn’t have a ton of money. I regret not investing until 2010ish. I was actually dating someone in 2006 who advocated buying apple stock (and he worked for MS at the time! sold his MS stock options every time he could to buy apple). I’m sure he is doing quite well right now.

    Also, thanks for the good reminder to inch up my 403(b) again. Maxing it out is not in the cards right now . . . but I go in every couple months and bump up my contribution amount slowly. Fun to watch that grow, especially since our service has a graph that shows your money contributions versus the growth the account has made since.

  9. bogart Says:

    I have two accounts like yours in the sense that (a) I know about how much I put in them and when and (b) no more has gone in since. One is an old 403b from an employer I left in 1999 and the other was a 403b I rolled over into an IRA in 2010 to take advantage of the spread-the-taxes rule in place then (well, that and the relatively low value of my accounts that year). Both are/were invested pretty much the same (as one another), mostly U.S. stocks skewed toward large caps, with some international stocks (20%?) in there.

    The 1999 account took maybe a dozen years to double (possibly a bit more time even than that). It’s now at ~225% of its original value. The 2010 one took 5 years to hit 200%. Obviously those processes weren’t strictly linear (the 1999 one wasn’t even close), but the difference in doubling time was a pretty striking illustration of how when you start investing (or stop investing, or both) can matter.

    I don’t think I’ve ever had “high interest” debt, though I guess what constitutes high is (somewhat) a matter of perspective — I wasn’t borrowing back then, but I do remember the 1970s, and when I started college, my savings account was earning 10%. My undergrad student loan was probably at around 7%, and I paid it off ahead of schedule (done before I finished grad school, no grad school debt except shortly before graduating I did take out about a 5% loan to buy a new car — around $13K borrowed across 5 years, drove the thing for 15 years. So, not great, but not a disaster.). And our first mortgage was an ARM at around 7.5%, but back then that was “good.” And with loans as cheap as they are today (assuming good credit), I do find some PFers’ obsession with avoiding/reducing debt to be over-the-top (not literally misguided, but all the same), though clearly there are risks/downsides to borrowing.

    It is nice, now, to see how my retirement account balances have grown (let’s see — I’ve been contributing for 18 years). Certainly not yet to a point where they are “big enough,” but nonetheless big enough that I feel, well, far more secure than I would if they weren’t in the range they are. Which does leave me glad I managed to squirrel away as much as I did as early as I did because — yes, compounding.

    • nicoleandmaggie Says:

      Doubling your money in 12 years while not as amazing as doubling it in 5 still beats no gains (losing $ to inflation) or having money drained away by debt.

      I’m glad those years of high inflation are far in the past.

      • bogart Says:

        Oh, absolutely. But, 5 is better :) . Those years of high inflation are in the past, but I don’t know that more don’t lie ahead (that is in no way a prediction, just a “the markets will fluctuate” sort of thought). But still — investment, good. Most debt, bad.

      • nicoleandmaggie Says:

        High interest debt that can (likely) never be beaten by the market , bad

  10. College Savings are hard to plan | Grumpy Rumblings (of the formerly untenured) Says:

    […] to pay for even two years of school. We have another $170K in taxable stocks (that’s from the 50K we had in 2005 and the leftover money from leave we just put into the market) that presumably we would use for the […]

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