Mortgage Debt vs. Consumer Debt – Why the easy path is the wrong one.

Mortgage Debt vs. Consumer Debt – Why the easy path is the wrong one.

Good Debt vs. Bad DebtWhy the easy path is the wrong one.

Lets face it the right thing to do, is almost always the hardest thing to do.

i.e. saving money, eating right, adhering to the speed limit.

Good debt.  An oxymoron?  Not at all.  Good debt is debt used to leverage the purchase of Real Estate, which ideally is a stable if not appreciating  asset.  In the case of investment properties also income producing.  Stable shelter, appreciation, income – all good things.  Incurring manageable debt to achieve these things is arguably ‘good’.

Debt financing a depreciating consumer good is about as bad as it gets though.

‘Pay cash for your toys’ were key words of wisdom in my own life.   Excellent financial advice.  Toys depreciate like nothing else.  Just ask anybody who has purchased a brand new Boat, Ski-doo, Motorcycle and had to sell it just one or two years later.

Often the value of such consumables drops below the the amount owed on them.  And unlike a dip in Real Estate values, there is just shy of a Zero chance that your car or truck will rebound and be worth more tomorrow than it is today.

Ironically this troublesome ‘Consumer Debt’ is far less regulated than the Real Estate / Mortgage market and is far far simpler to bury yourself in.

Despite all the hue and cry over people getting into mortgages too big to handle I would suggest this is a misinformed opinion and not entirely fact based.  The fact is that the standards for entry into mortgage debt are radically higher than those for entry into consumer debt.  Just ask anybody who has applied for a mortgage lately as opposed to somebody who received an ‘auto-approved’ $10,000 unsecured line of credit notice in the mail.

Got a pulse?  here is a $10,000.00 credit card!

Here is a question to consider; if it is logical to measure ones current debt obligations (car payments, student loans, etc.) as part of approving additional debt in the form of mortgage financing, then why is that same standard not applied to an application for a car loan, lease or credit card?

have you ever had to provide a job letter, paystub, or current mortgage statement for approval of a credit card or car lease?  Nope.

Clearly the regulators seem unconcerned about actually regulating access to consumer debt via legislation around qualifying or maximum limits.

Here is some math on why that might be;

Credit Card Debt

$27,000.00 @ 19% yields ~$411.50 per month in interest.
The lender has their principal (the $27,000.00) back in 6 years, and from their forward it is all gravy…
…for the remaining 121 years (the effective amortisation of such a debt) that it takes to pay that $27,000 balance off via the minimum payment.
Mortgage Debt
$166,175.00 @ 2.99% yields ~$411.50 per month in interest.
($27,000.00 @ 2.99% yields ~$66.86 per month in interest.)
It is 19 years before the bank gets back its principal.
The lender is paid off in full over 25-30 years, no more earnings for them.

Conclusion

Clearly the lenders best interests are to keep consumer debt readily available as it represents the highest and best use of shareholder capital.  The higher delinquency rates are referred to as justification for the higher rates.  The higher rates and a consumers lack of understanding of the true costs lead to higher delinquency rates.

121 years to pay off a 27K credit card balance?  How is this even allowed?

Clearly the mortgage portfolio has little hope of generating the returns of the consumer debt side of the business.

Final Question;

How does it make any sense at all that CDN’s must pay off an appreciating asset in which they may well reside for 50 years within 25-30 years (depending on down payment), yet those same CDN’s are allowed to go out and load that asset (their home) full of particle board furniture, velvet Elvis’, boats, cars, etc…all at zero down with effective amortisations of 120+ years?

How?

 

 

 

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