When it comes to debt, not all types are created equal. The only debt that truly makes sense for most people is a mortgage. Note that we’re not saying you should have a mortgage or need to have a mortgage. What we are saying is that if you are going to take on debt, as in take out a loan, the only kind of debt you should consider taking on is a mortgage. Here’s why:
Real Estate Appreciates Over Time
A house is considered an appreciating asset, which means it tends to increase in value over time. For example, if you buy a home for $200,000, it might be worth $250,000 or more in ten years. This increase in value, called appreciation, helps build your wealth. Over time, as you pay off your mortgage, you own more and more of your home, increasing your equity. Equity is the difference between what your home is worth and what you owe on it.
Automobiles Depreciate Rapidly
In contrast, cars are depreciating assets. The moment you drive a new car off the lot, its value drops significantly. For instance, if you buy a new car for $30,000, it could be worth only $24,000 a year later. This rapid depreciation means you’re paying off a loan for something that’s losing value fast.
Because cars lose value so quickly, many people end up needing gap insurance. Gap insurance covers the difference between what you owe on your car loan and what your car is worth if it’s totaled or stolen. Without gap insurance, you could end up owing money on a car you no longer have.
Credit Card Debt: The Most Expensive
Credit card debt is the most expensive type of debt. Interest rates on credit cards can be very high, often 15% to 25% or more. This high interest makes it easy to get trapped in a cycle of debt, where you’re paying off interest more than the principal balance. For example, if you have a $5,000 balance on a credit card with a 20% interest rate, you could end up paying over $1,000 in interest alone in a year if you only make minimum payments.
Achieving Financial Independence
Focusing on a mortgage instead of other debts can help you achieve financial independence. When you own a home, you’re building an asset that can support your financial goals. Over time, as your home’s value increases and your mortgage balance decreases, your net worth grows. This growth in net worth can provide financial security and open up opportunities, like investing in other properties or saving for retirement.
In contrast, car loans and credit card debt can drain your finances. By avoiding these types of debt, you can keep more of your money working for you, not against you.
Conclusion
In summary, the only debt you should consider is a mortgage because a house is an asset that typically appreciates over time. Cars, on the other hand, depreciate rapidly, making car loans less beneficial. Credit card debt is the most costly due to high-interest rates. By focusing on a mortgage and avoiding other types of debt, you can build wealth and achieve financial independence.