What is the real cost of living on borrowed money?
Have we become a society addicted to debt? Based on some recent surveys, I would have to conclude that the answer is yes.
For the last few years, RBC has conducted a debt poll. According to their survey, 38 per cent of those polled said they were very comfortable with their debt, while 38 per cent said they were very anxious about their debt. The other 24 per cent were neither very comfortable nor very anxious about their level of debt. Based on these numbers, how can I conclude that we're addicted to debt? The answer lies in another RBC number: only 24 per cent of Canadians are debt-free, which means 76 per cent of us are living with debt.
When I was growing up (before widespread use of credit cards), the only debt my parents had was their mortgage. When my father wanted a new car or my mother wanted a new dress, they'd save their money and pay cash. Credit was not so readily available. (Some of you may estimate my age at or nearing 100, but I can assure you that I wasn't old enough in the 1950s to know who Elvis was, and I only vaguely remember the JFK tragedy.)
So what has changed in the last 50 years?
Obviously, quite a bit, but what I'm most concerned with is the widespread acceptance of debt. Debt has become an acceptable fact of life in our society. Call it what you want, but to me it appears that our society has taken the attitude that living beyond one's means is OK, so long as you can make the payments.
Many arguments can be made as to who is at fault, but like so many things in life, we can blame someone else or take responsibility for our own actions. Let me give you an example of how this may not entirely be "our" fault.
A few years back, the Canadian Mortgage & Housing Corporation (CMHC) was willing to insure mortgages that were amortized over 40 years. The purpose behind this lengthy amortization term was to reduce the payments for homebuyers, thereby making housing more affordable. What actually happened was that developers, bankers and realtors were able to increase the price of real estate, thereby making housing less affordable.
Here's an example: a homeowner has a $250,000 mortgage that is amortized over 40 years with an interest rate of 5 per cent, with monthly payments of $1,197.01. Now, if the mortgage had been amortized over 25 years instead of 40, the payments would have been $1,454.01. If you were able to pay the 25 year rate of $1,454.01, you would have had no problem purchasing a more expensive house amortized over a longer period. A $300,000 mortgage at a 5 per cent interest rate and amortized over 40 years gives you payments of $1,436.41, which stacks up awfully close to the $250,000 mortgage over 25 years.
In other words, this rather benign, well-intentioned change aimed at making housing more affordable means your current residence may have cost you a lot more than it needed to.
I came into the financial services industry from social work over three decades ago because I recognized that money (or the lack thereof) causes more stress on families than anything else in our society. I think the reason is because many of us want things, and we want them now. Waiting is not an option. This brings us to the discussion of wants and needs.
I was once told by a lady that she "needed" a Mercedes. I suggested she didn't need it and that she only wanted it, but she was adamant -- I need a Mercedes. How unfortunate. She couldn't afford it, but she bought it anyway -- on credit.
We do need a lot of things to survive, but the last time I checked Maslow's Hierarchy of Needs, most of the things on the list didn't cost a thing. I don't think it is a stretch to think that we can get by with a little less or wait a little longer for that which we covet.
I don't want people to worry about money; it's bad for their health. But I do believe that people should think twice about using credit, particularly now. Everybody, and I mean everybody, knows that one day interest rates are going to go up and a small rate increase of even 1 per cent can cause your cost of borrowing to go up 25 per cent or more.
They say that the first step in fighting an addiction is recognizing that there is a problem. Do you have a problem? Can you live without borrowed money? If not, you may be living on borrowed time.
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