In order to achieve financial independence, you must properly manage your debt. Here is a debt optimization framework to help you do just that. Ideally, you want to be completely debt-free when you retire or no longer want to work or have the ability to work.
But first, let's discuss why we get into debt.
Why We Get Into Debt: Entitlement
Most of us get into debt because we WANT something we cannot afford. This is called entitlement mentality, which is one of the biggest wealth destroyers.
Instead of sending our kids to public school, we want a private school education. Therefore, we borrow $50,000 to learn something we can learn for free on the internet.
In our 20s, we want to live a fabulous lifestyle. Therefore, we put everything from fine dining to designer clothes on our credit cards. But credit cars charge some of the highest interest rates, which then keep consumers trapped forever trying to pay them off.
In our 30s, we are sick and tired of paying rent. Therefore, we leverage up 7:1 to own a property that will crush our finances if we need to sell in a down market. Follow my 30/30/3 rule for home buying instead.
Taking On Excess Debt Is Mainly Due To Greed
Make no mistake about it—debt is a manifestation of greed. Which means I'm one greedy bastard! I wanted to live a nicer lifestyle and get rich as young as possible. In my 20s and early 30s, my biggest fear was not taking enough risk.
As a result, I worked hard, saved and invested aggressively, and borrowed a lot of money to buy real estate. Real estate is my favorite asset class for building wealth because it generates rental income and appreciates over time. Meanwhile, you’re automatically paying off your debt each month.
Some of you might be thinking you’re not greedy for having debt. But deep down, you know what I’m saying is true. Not only are you greedy, but you're also a bit impetuous. But don’t be ashamed—when managed properly, greed can actually help you reach financial independence sooner.
In this post, I share my debt history and a debt optimization framework to help you build wealth faster while minimizing the risk of a financial blowup.
A Stroll Down Debt Lane
With everybody in agreement with my debt type rankings, here are some key moments in my life when I could have gotten into debt or actually did get into debt.
College Years 1995 – 1999
I had zero debt because my parents paid the $2,890 annual tuition and $4,470 room and board which I've since repaid. I purposefully chose The College of William & Mary over a private school (~$35,000 all-in back then) because I knew that if I couldn't get a corporate job after graduation, even with a minimum wage job, I'd still be able to reimburse my parents quickly for four years of tuition.
Besides, William & Mary is a great school with small class sizes and a beautiful campus. I was humbled they accepted a kid like me because I didn't do well on my SAT.
NYC 1999 – 2001
I continued to have zero debt because there was nothing to buy and nowhere to go when you are working 70 hours a week. All I wanted to do was save money and sleep with the precious time I had left. The money I did spend going out was usually charged to my credit card which I promptly paid off each month.
If I could have afforded to purchase a NYC apartment, I would have gotten into a lot of debt. But with a base salary of $40,000 my first year and $55,000 my second year, I couldn't afford to buy a closet, let alone a studio.
SF 2003 (serious debt begins)
At the age of 25, I was restless to change my life. I had several hundred thousand in the bank due to a lucky stock pick (VCSY went from $3 to $150 in several months) and aggressive savings. I was *this* close to leaving everything behind and moving back to Honolulu to work on my grandfather's vegetable farm.
Instead, I took on a $435,000 mortgage by purchasing a $580,500 2/2 condo in Pacific Heights. The condo seemed like a no-brainer at the time since it has a dead on park view that in Manhattan would cost well over a million. Overnight, I was reinvigorated to earn more money due to my debt burden.
SF 2005 – Bought a new house
I took on a $1,288,000 mortgage by purchasing a $1,520,000, 4/3.5 single family home. For some reason, I didn't fear taking on so much additional debt because I was being outbid on 2/2 and 3/2 condos that were being listed at $1.1M – $1.2M and being sold for $1.3M – $1.4M! For $120,000 more, I was getting an entire single family house in a good neighborhood that had four bedrooms, and three and a half bathrooms.
Yes, it was close to a busy street, but it was also the cheapest single family home I could buy in the north side of SF with this type of scale. The listing agent was from out of town and had listed the house during Christmas when many people were away. I smelled opportunity and went all-in with what I had at the time.
SF 2007 – Bought a vacation property with a mortgage
I took on a $560,000 mortgage after purchasing a $715,000, 2/2 vacation condo in Squaw Valley, Lake Tahoe. I thought I was getting a deal because the sellers had bought the condo for $820,000 a year and a half earlier.
In 2007 I was at the peak of my financial wealth. Little did I know the housing crisis was right around the corner! As a 30 year old, I thought I couldn't lose. But on paper at least, I lost BIG TIME.
SF 2014 – Bought a fixer upper with a mortgage
After spending years grinding back all my losses and getting comfortable as an early retiree starting in 2012, I took on a $992,000 mortgage after purchasing a $1,240,000 fixer upper single family home. I was able to do so partly because a 5-year CD expired in early 2014, giving me the 20% downpayment and a 20% cash buffer.
I was again going through a “what should I do with my life moment” and considering whether I should go back to Honolulu to be closer to my parents, when I stumbled upon this house in San Francisco with panoramic ocean views listing for 40% less on a price/sqft basis than my northern SF home.
It made no sense the price would trade at such a discount, where everywhere else in the world, ocean view homes trade at a significant premium. I just had to have it. The property was in what I considered to be an “undiscovered” neighborhood that is just now going mainstream.
Total mortgage debt taken out: $3,275,000
Holy crap! That's a lot of debt to take on by age 37. Taken in isolation, $3.275M is an inordinate amount of money to borrow. But if you compare the debt amount with its associated asset values and my income, the debt figure seems more reasonable.
The total value of my real estate holdings is roughly $6M. Therefore, my debt-to-asset value ratio is roughly 54.5% aka Loan-To-Value (LTV) ratio. Today, many banks require a borrower to put down 20% on a property, thereby giving the borrower a 80% LTV. Thus in this regard, I'm well in the money.
Further, today, I don't have $3.275M in debt anymore. After checking my mortgage balances on Empower, my mortgage debt is “only” $2,089,550 for an even more reasonable LTV ratio of 34.8%.
Compare Debt Amounts to Equity And Asset Amounts
This means I've got about twice the amount of equity as I do debt. Within 20 years, I plan to get my LTV down to 0%, ensuring that I have at least a $6M net worth to pass on to my children estate tax free. Unless they are bad, in which case no soup for them.
The Lake Tahoe Vacation property is worth about $700,000 (54% LTV). The Marina single family home is worth about $2,700,000 (30% LTV). The Golden Gate Heights single family home is worth about $2,000,000 (45% LTV). And the 2/2 Pacific Heights condo I bought for $580,500 in 2003 is worth about $1,000,000 (0% LTV).
Based on my ratios, I'm not that leveraged. It just seems that way given the total dollar amount is relatively large compared to the median debt amounts Americans have.
The Value Of Debt
Here are some reasons why I'm not freaking out about carrying $2M in debt.
1) Nicer living arrangements.
Although I recommend living like a pauper between ages 18 – 34 to achieve financial freedom sooner, after four years of crappy living arrangements after college, I had had enough. Since I was 26, I've lived in nicer places compared to what I would have rented because I had drawn a line in the sand at spending more than $2,000 a month for rent.
Today, it is rare for a 26 year old to live in his own 2/2 park view condo in Pacific Heights. The same goes for a 28 year old having his own single family home in a nice neighborhood. If I hadn't bought property, today I'd be super liquid. But I also wouldn't have been able to live as well I did for ~12 hours a day for the past 14 years.
Further, with the global pandemic, we're all spending a lot more time at home. Therefore, the value of our properties have intrinsically gone up. The larger and nicer our homes, the better.
2) Passive income.
My rental properties generate roughly $109,788 in rental income after all expenses and before taxes. Rental property alone can comfortably provide for me and my wife. Physical rental property is ranked in my top 3 best passive income sources.
Unfortunately, it's not enough to also cover the cost of raising a child in San Francisco comfortably. In late-2019, we were also blessed with a daughter. Therefore, we've been diligently saving and investing our money to try and generate even more passive income.
One one to generate more passive income is through real estate crowdfunding. The income is 100% passive and the net rental yields (cap rates) are much higher than in expensive San Francisco. As a result, I've invested over $500,000 in real estate crowdfunding.
3) Investment bet.
To be able to control $6M in assets for only $2M at a blended interest rate of 2.65% in the cheapest international city in the world is a long-term bet I'm willing to take. Although San Francisco is going through a price softening now, I'm bullish that prices will be higher 10-20 years later.
I've been to many major international cities, and San Francisco is good value relative to the jobs and incomes available. For example, Vancouver is even more expensive than San Francisco, yet they don't have dozens of companies paying new college graduates $100,000+. Nor does Vancouver have the VC and startup ecosystem that helps drive innovation.
Besides seeing the data, I know these six figure income levels for 20-somethings to be true because I see the pay stubs of many tenant applicants as a landlord.
I absolutely believe that panoramic ocean view property in San Francisco is some of the most undervalued real estate in the world. The time to investing in big city living is now. When COVID-19 over, there will be a massive rush back.
Personally, I'm bullish on the west side of San Francisco due to a new school and hospital opening. In addition, the artificial intelligence space is booming, which should boost property values in San Francisco as well.
4) Debt provides perpetual motivation to earn more money and provide.
After experiencing 13 years of overseas living, life is relatively easy in America. If you don't believe me, take a trip to New Delhi and see what hardship really looks like. You can even go to developed Hong Kong and see how little you get in housing for your money. We've got it so good. No wonder most of us speak only one language and are out of shape!
If I had zero debt and $200,000+ in passive income, I'm SURE I'd turn into an aimless trust fund kid who decides to travel the world for a year after only putting in a couple years of work. Instead of publishing 3X a week on average for the past eight years on Financial Samurai, maybe I'd publish once a month instead. Instead of responding to comments and e-mails, perhaps I'd just ignore everyone!
Knowing there's $2,089,550 in mortgage debt still left to payoff keeps me focused on optimizing my finances. I could have quit building my passive income when it was generating $80,000 – $100,000 a year, but I kept going due to a desire to provide the best possible life for my family.
I view my four mortgages as my four kids. One has already graduated from college (paid off in 2015), with three left to nurture for the next 5 – 10 years. I won't stop optimizing my finances until all the mortgages disappear, and especially when a real life kid comes into the picture.
5) Total income can handle the load.
Everything is rational when it comes to finance. When someone proclaims they got into $70,000 of credit card debt and then paid it off in one year, it's simply because they had a high enough income for credit card companies to grant so much debt and a high enough income to press a button to pay it off quickly.
No bank would have lent me so much money if I didn't have a high enough income for a long enough period of time. Yes, from 2012-2013, I was vulnerable given I had just retired from Corporate America with a ~70% decline in income. But I still had assets I could get rid of to pay off all debt if worst came to worst. I used my debt as motivation to get back to where I was and beyond.
In 2024+, my passive income took a big hit because I sold stocks and bonds to buy a true forever home in 4Q2023 with cash. As a result, I'm technically no longer financially independent. My goal is to earn, save, and invest as much as possible until 2039 so I can return to FIRE. If I succeed, I will not only rebuild my passive income back to $380,000, but also have a paid off forever home.
Debt Management Is Important
Despite my reasons for embracing debt, I'm no longer planning on getting into much more debt. I'm basically borrowing 10X my passive income, which is way out of line based on a recommended 3X income debt maximum.
Yes, I've got a healthy online income stream from Financial Samurai due to the 1M+ organic pageviews a month, but such income, like Social Security, cannot be 100% counted upon for the long term.
Nowadays it makes more sense for me to invest in cheaper real estate projects around the country, refinance existing mortgage debt, and try to hoard as much cash as possible. I need to be prepared to survive through an extended down cycle given my debt level.
Given my expectations, I'm hustling now to create $1.2M in value and $22,000 in extra passive income before the pain occurs. The main way I plan to make up for such potential loss is by building my online business and generating extra passive income through real estate crowdfunding. With an 8% return, all I need is $275,000 in real estate crowdfunding to earn $22,000.
Total Debt Framework For Financial Freedom
We know that debt can help us get what our greedy hearts desire. But too much debt can also ruin our lives. Therefore, my Debt Optimization Framework takes into consideration age, income, asset value, and ability to recover from financial calamity.
I'll be using two ratios: Debt / Income and Debt / Asset Value to provide a guideline by age for an Aggressive, Moderate, or Conservative individual.
The chart is built on the following assumptions:
- Each percentage assumption is the maximum recommendation.
- Interest rates remain relatively low e.g. 2% – 4% on the 10-year bond yield for the next decade.
- Student loan debt does not exceed 100% of annual gross income.
- Debt / Income can't exceed 500% largely because institutions won't allow it.
- There should be very little to no automobile or credit card debt after age 30.
- Everyone buys a home between ages 25 – 35 to at least get neutral inflation.
- Nobody has any debt left by age 60.
Debt Optimization Framwork Chat
The more I study the debt optimization framework chart, the more I like the idea of being completely debt free by age 45 (Conservative). But that's because I was so aggressive in taking on debt in my 20s and 30s.
Only folks with highly defensible and high growth salaries should consider going the Aggressive route. Otherwise, you may end up bankrupt and alone. If you are unsure, follow the Moderate route.
Ideal Debt Usage Scenario In Your Life
The ideal scenario is to aggressively take advantage of other people's money while young, get rich, and then pay back all debt ASAP. If you do this, everyday will feel like you're living off the house's money, literally and figuratively. After the age of 40, your appetite for risk will wane, especially if you have dependents. Therefore, take more risks while you're younger so you have more time to recover if things go wrong.
Used wisely, debt is a great tool to help accelerate financial independence. Once you control a relatively large financial nut for a low price, you can build a small fortune.
For example, my $6M property portfolio that costs $53,000 a year in deductible interest to control, will grow to $10M in 20 years if the portfolio grows by just 2.59% a year. Further, all the debt will be paid off by then. That sounds pretty darn good to me as I work on building other parts of my net worth in the meantime.
Please follow my debt optimization framework if you want to achieve financial independence sooner, rather than later.
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Debt Pay Down Recommendations
If you have expensive revolving credit card debt or other type of high interest rate debt, consolidate your debt with a personalized prequalified loan with a lower rate.
Check out Credible, a lending marketplace that has qualified lenders competing for your business. Credible provides rates for you to compare so you can lower your interest rate and save.
Invest In Real Estate More Strategically Without Debt
To invest in real estate without debt, check out Fundrise. Fundrise offers funds that mainly invest in residential and industrial properties in the Sunbelt, where valuations are lower and yields are higher. The firm manages over $3.5 billion in assets for over 500,000 investors looking to diversify and earn more passive income.
Another great private real estate investing platform is Crowdstreet. Crowdstreet offers accredited investors individual deals run by sponsors that have been pre-vetted for strong track records. Many of their deals are in 18-hour cities where there is potentially greater upside due to higher growth rates. You can build your own select real estate portfolio with Fundrise.
I've personally invested $954,000 in private real estate since 2016 to diversify my holdings, take advantage of demographic shifts toward lower-cost areas of the country, and earn more passive income. We're in a multi-decade trend of relocating to the Sunbelt region thanks to technology.
Fundrise and CrowdStreet are long-time sponsors of Financial Samurai and Financial Samurai is currently an investor in Fundrise.
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I’ve never seen it spelled out this way. You’ve, once again, provided us with a really useful framework. I don’t think I would be comfortable in that Aggressive range, but the moderate range could eventually be doable.
Sam,
You’ve mentioned a few times that real estate buying and selling transactions are too high these days. I think you know enough about real estate, finance, and technology and have enough connections to try to do something about this. What is the reason commissions are so high? Couldn’t you develop some online Fintech solution to bring the cost down?
I’d love to hear that VCSY story. Not that there would be a lot to learn from it, but that’s cool!
I think debt and real estate are extremely powerful. Most rich people don’t attribute much of their wealth to debt and real estate, but it plays a huge role even if they don’t realize it. If you didn’t leverage, you would have had much less real estate. With much less real estate, you might still be working right now.
“When I was 23 I got lucky, very lucky. No, a Ford agency supermodel didn’t decide to stalk me around Manhattan and show me off to her beautiful friends in case we didn’t work out. Instead, a $3,000 investment turned into $155,000 in two months. The stock was VCSY a Chinese internet company with a homepage consisting of a simple dial pad. I had no idea what the company did except for the fact that Internet + China in December 1999 sounded like a fantastic idea during one of the greatest bubbles of our times.
VCSY went from around $3 to $6, did an inexplicable 20-for-1 stock split and then went up to around $9. In other words, it went from $3 to $180 pre-split and I had 1,000 shares. The stock’s move was one of the most ridiculous things I’ve ever seen as everybody I knew on the Street started piling into the name. I eventually got out of the stock at around $155 a share, netting a cool $153,000.”
– See more at: https://www.financialsamurai.com/?s=vcsy#sthash.UrJEwYrx.dpuf
Thanks for digging that up. What wild times those were! I heard companies that had nothing to do with the internet would simply change their description to sound more internet-y to see a huge market cap jump.
Great post and a great way to give someone debt adverse like myself a coronary. I could not imagine being over three million in debt even though you have what would be defined as “good” debt since you are using it to generate more wealth. I too bought a condo in 2006 which has plummeted in value, but I rent it our these days and it’s slowly going to be worth it to sell it at some point.
My wife and I are each 4-5 years into our careers but 40 is not too far around the corner. We’ve accumulated a substantial “financial nut” in that timeframe and could retire in the next 2 or 3 years with the $200,000/yr income desired.
Presently we have a low debt/income ratio (<43%) and low debt/assets as well (13%). Trying to figure out both a limit and comfortable future mortgage amount. Houses in the "dream house" range would put us in the 340% d/i level but still remain reasonably conservative from an asset perspective – 44% – although the dream house would presently represent 2/3 of the "assets".
Concerned that we're pushing the comforts of our income, without substantial drivers to increase the active component, but why work so hard and earn this much without a dream house to live in – both enjoy our jobs and will probably slow down a little over the next 5-10 years but plan to keep going for 18 years.
Hi Sam,
Long time lurker, first time question asker. I wanted to get your opinion on my next steps.
Long story short, over the last 3 years I have been able to pay off all student loans and purchase my first property (2br/1ba duplex). Currently living rent free as I have one of my good friends living with me in my side while renting the other half.
I have about $15k in checking/savings. Would you continue to save up for the next down payment on a property, or should I pay off the remaining balance on my car ($10k)? The car is financed for 3 more years at a measly 1.7%
Thanks!
Kevin
Hi Kevin,
Nice job living for free!
I’d take 20% of your cash flow to pay down your car payment, and invest/save the remaining 80%.
See: FS-DAIR
Debt is a great motivator indeed! Everything really is relative. Debt should be embraced if it’s creating huge value.
Also.. do you really think a 20% downturn in coastal cities is approaching in the near future?
And doesn’t this go against what you’re predicting for Bay Area real estate from the upcoming tech IPOs? (Airbnb, Uber)
I don’t think coastal city real estate prices will go down 20%, I’m just preparing for it. The high-end, those properties over 2.5 to $3 million is definitely slowing down.
The lower end is done about 5 to 7%, depending on property type. I think buying this winter or during the slow months of next year could be a perfect opportunity right before the big IPOs.
Ah thanks, Sam! Definitely seeing a decline in the high end luxury ($3M+) properties out here in NY already.
Currently don’t have the funds to purchase a single/multi-family home in SF (the type that I think those cashing out on the IPO would like to buy), but was thinking about investing in a condo or smaller house (under $600k) in cheaper areas of SF (or Oakland/Berkeley). The rental income would be nice, but mainly banking on appreciation as there are better options for rental yields. Would you recommend against that?
I am based on the East Coast so would be renting it out and have a property manager.
Sam,
Awesome post! Nobody really talks about debt…people usually just discuss assets. It is really interesting to see where your peers are at. Everyone is always trying to get ahead.
For me, I am in southern California. I am currently a bit asset heavy in real estate.
Real estate net worth 7.5 million across 4 properties, about 2.5 million of debt, 5 million in equity. I am currently 40 years old and am in aggressive accumulation mode. I am planning on purchasing one new investment property target price 1-1.5 million every year until I am 45. The plan is then to pay off everything as quickly as possible and retire by 50-55. At that time depending on the number properties and value of the properties I may role these into NNN investments and have truly passive income.
I live in a very expensive part of town and my goal would be passive income of 60-70k per month
What do you think?? Am I too real estate focused? I am spending a good part of my income on real estate ventures as opposed to Stocks and bonds. Is this wise? Should I diversify more?
Hi John, I think shooting for a $60,000-$70,000 a year passive income is a great goal. Go for it! The one caveat is that coastal city real estate prices are slowing now, and the rental market is softening as well. Therefore, I would slow down in my coastal city real estate purchases and diversify into the heartland, we’re prop prices are much cheaper and the net rental yields are much higher. But this is what I’m doing, you’ve got to decide what’s the most comfortable for you.
What do you do for a living?
Sam,
I agree with your assessment of coastal real estate prices. I do not think they are headed through the roof. I am just too chicken to invest in the heart land because it is not a tangible asset for me. I need to see touch and feel the property. I guess that is just my thing!
Correction, I am shooting for 60-70k per MONTH, meaning passive income of 700-800k per YEAR. This is about 1/2 of what I currently make working. I am a specialty doctor with a very large referral base. I am not dependent on insurance. I just don’t want to work forever!! I am jealous of your retirement!
Los Angeles is very expensive. Some of the people who work in my office make almost 100k per year.
Honestly, I am not certain how some survive. I follow all the financial samurai rules for Cars, house, mortgage etc. I am adverse to take on too much debt and I spend less than 1/8th of my gross yearly income total.
I think in a city like Los Angeles or SF you need to make a lot especially with tax rates north of 39% federal and 13.3% state…we are getting hammered on taxes.
It is true what you say stealth wealth is common. I can’t tell you how many patients of mine have tens of millions in real estate and or stocks. In a metropolitan city it is common to meet many people that have net worths of tens of millions… I even have a few billionaire patients! It is a great way to make you feel poor!
My current project is 1031 exchanging a 800k property to a 5-10 unit investment property. This will most likely involve putting in some capital as well as capital improvements. These types of properties in LA are about 2.5-4M for 5-10 units depending on the area.
I appreciate all your posts!! I think they benefit people of all walks of life.
Thanks,
John
Hey Sam!
Really love your posts – this is a great one because I wrestle with this daily mentally.
If you see this could you please provide some of your thoughts?
I am in Startup Tech Sales in NYC so get paid decently and am geo-arbitraging rent in Jersey across the water. A mile from the riverfront – 1000$ a month one bedroom split with SO. 30-45 minute relatively unpainful commute.
I have one investment Multifam in Hudson County with partners doing great returns and are having difficulty finding a second as everything’s heated up. We have money on the side waiting for this.
Following your path and advice has aided me greatly, and I do want to start personally having my own home and building sweat equity while young. I would buy a multifam in NJ near NYC on a transitline. I know RE and am comfortable with minor renovations – I honestly want something productive like that to do on the weekends.
My problem is my amazing rent! 500$ a month?!?
Its too amazing! I dont even know how to do the math – thoughts?
That is pretty amazing rent in this day and age! And if you don’t mind the commute, but definitely keep on renting!
One thing to be aware of is that I spoke to many, many people who had amazing rent 15 years ago in Manhattan and New York City. Because the rent was so amazing, they never really push themselves to save a lot and buy a primary residence. Now when I talk to some of these people, they really, really regret not purchasing because property prices have doubled and tripled since then.
So while you might save $10,000 a year and rent, you might also be losing out on $30,000 a year from prop price appreciation. It’s worth doing the math to see some different scenarios.
There will be a time when you might want to live in a nicer place. That was my trigger for buying my own place. I couldn’t stomach paying more than $2000 in rent a month.
We opt for zero debt. We paid off our first home in 17 years. Purchased for $72K and sold for $160K. Purchased our second home for $435K, paid it off after 12 years, 3 years ago when my wife and I turned 50. When we paid it off, it was appraised at $505K, likely worth more today with the tight market here in the heartland. A very similar floor plan home in my small neighborhood went on the market for $550K recently.
We opened a home equity line of credit at 80% of the appraised value (~400K) to have in our back pockets for future income generating opportunities but haven’t leveraged it yet.
The only debt we have carried was a mortgage over our 32 year marriage. Home equity is ~18% of our NW. Reason, we paid it off was peace of mine. Secondly, paying all that interest over time to the Bank even as small as it was after the tax credit is hard for me so I opted to pay off sooner rather than later.
We view a home as a home first and then an asset second. I guess my reason for that stems from my childhood…my parents lost their home to foreclosure during the early 80’s when rates where at 15 to 18% for mortgages and we ended up moving to 2 different rental homes before I left on my own for college. I saw the stress on them and the toll it took on our family of 6, foregoing utility and sometimes food to make the mortgage…I didn’t want that to happen to my wife and two kids. No debt for me. I still work today but want the ability to leave when I have had with the rat race…getting close…very close and having no debt affords us that. I guess its your perspective and experience that drives your ultimate decisions on debt.
Enjoy your Blog Sam … have been a reader now for 3+ years and have forwarded your site to my kids and many others. Appreciate it. Thank you.
Thanks for sharing your debt story. It’s really great to hear from readers. Thanks for also sharing some of my post with your kids and relatives. That’s pretty cool.
Like you, I have no regrets paying off one of my mortgages. It’s a worthwhile endeavor to achieve before certain age. Those are really gratifying as well. I plan to pay off my vacation property mortgage in five or six years.
These are good ratio’s, but I do think that the total debt should exclude debt for income producing assets (usually real estate). For these, each should be looked at as far as LTV ratio with an absolute max of 80% and an absolute minimum of 0%.
Investors should be extremely cautious about chasing cash on cash w/ 80% leveraged property as the risk is great. For more conservative income producing property 40-60% LTV can provided significantly enhanced cash on cash for very little increased risk. The key is getting the right loan terms that limit risk (interest rate, balloon, refinancing etc)
Hi Sam,
Great, detailed post. I have a few questions as I consider my first real estate purchase. Firstly, if I’m understanding the debt / asset value equation properly, you are considering a conservative approach would be coming up with 40% down payment on a properly at the age of 30 (to meet the 60% asset value?). Or is it in fact find to substitute net worth as someone mentioned above. Personally, rather than sell off assets held in a non-registered account to try to hit close to that number, I’d be tempted to put less down, say 10% and keep the rest in investments. Wouldn’t this be a better alternative? This keeps me much more liquid and able to take advantage of other opportunities.
Next, I’m Canadian and looking to invest in Calgary, Alberta as a primary residence. Many people shun condos in terms of investments as it seems they grow much less attractive with age as appose to single family houses. I see this now, when looking at Condo buildings from the 90s vs the late 2000s and later. The latter are much more appealing to me. I recall you saying on a number of occasions that you buy with the intention of holding on to it forever. How does this relate to condos? The prices of condos pushing 20 years old, even when renovated nicely on the inside, are markedly cheaper even in prime areas of the city.
For this reason I’ve considered a single family house. However, being very close to the core of the city is important to me so this would be stretching me much thinner. But if there is potential for a much more significant capital gain, then it would be worth it in the longer run. Any thoughts on Calgary? Very much tied to the Oil industry, SFHs have been fairly flat for the last 2 years, and condos have come down a bit in price. However, the income / price ratio is fairly favorable for a large city in Canada. I don’t want to buy into a housing bubble but that seems more limited to Toronto and Vancouver in my eyes though analysts often generalize and say “Canada”. I do want to expose myself to real estate but haven’t yet due to my current city of residence not being somewhere I wanted to tie myself to.
Appreciate any insights.
I have no insights on Calgary, and I’m not very bullish on oil prices. Buying a single-family home is superior to buying a condo.
From an American’s perspective, Canada feels like it’s in a big bubble. We just don’t see one large being in the streets or that can support these prices, given the oil market remains depressed.
I’m down to just about half of my current mortgage (here in the heartland). I’m pretty happy with that, since I’m in about 4,000SF on 5 acres with part of a lake . . . for less than $250,000. Way less.
I blame our low housing prices on our low cost of living and laid back lifestyle. Oh, and our short commutes.
In paying down debt at an early age, I think a note should be made about the tax implications. If you are currently in a high tax bracket due to w2 income, rental property net income is likely going to be taxed at a higher level than when you are retired and no longer have w2 wages. Paying off rental mortgages with tax deductible interest now limits your capital and the ability to continue investing. It maybe better to delay paying off mortgages on rental properties until closer to retirement age. Of course if your income is primarily passive abd taxes at 15% or less then this would not apply.
Rental income is awesome because you have a non-cash amortization expense to shield your rental income. Do you own rental properties?
Everyone here has something valuable to add, so I’ll just answer the end question and cement myself as the Non-Contributing Retail Banker.
Currently I have zero debt, but I’m going to have roughly $100,000 in mortgage debt soon. Once I go through the mortgage process. Buying a co-op. Wish me luck!
Sincerely,
ARB–Angry Retail Banker
It would be a lot easier to have limited to no debt if we all “got luck on a stock and suddenly had a few hundred grand”…. Not saying you havn’t done amazing things or that I don’t love your blog I am just saying..
Yet here I am with $2 million in debt. I wish I was luckier!
I attribute a lot of things to luck. From getting into the College of William and Mary, to getting a job in finance, to starting Financial Samurai in 2009, to buying a fixer in Golden Gate Heights in 2014.
These are the true lucky breaks. My stock win in VCSY is much smaller in comparison.
What are some of your lucky breaks in your life? Part of the reason why I continue to try so hard is because I recognize all my good fortune, and I don’t want to take it for granted.
I think you’ll enjoy this post: https://www.financialsamurai.com/sweat-dreams-of-becoming-a-millionaire-again/
Debt is one of the greatest tools of all time. I think the problem is that most people do not understand how to use debt properly. Debt, when used as financial leverage in acquiring income generating assets, can offer you better returns on your investments. It can allow you to control assets that you normally wouldn’t be able to afford to control.
For example, in what world would you be able to buy a $1,000,000 for only 25% of that price? With $250,000, you can own an asset that generates a monthly income (even more monthly income than you’re payments on the debt!) that is valued at $1,000,000.
Leverage can allow someone to build wealth at much greater speeds than without debt. Learn to harness the power of debt to acquire assets, and avoid using debt to purchase things that depreciate in value and do not generate income.
“Give me a lever long enough and a fulcrum on which to place it, and I shall move the world.” -Archimedes
No debt right now. Buying a place in silicon valley soon with the squeeze. Likely 1mm in debt over 30 years. Using existing 1mm portfolio to service the debt. Probably lockng into interest rate for 30 years at no more than 4%
Early 30s couple. Looking at 1 or 2 kids. It’s not even a financial decision but more parental instinct more than anything else. Houses are money pits. Squeeze wants to renovate. Projects galore. Please advise what to look for when hiring a trusty Reno contractor
I’m 37 and I’m on the mark with being aggressive at 275% debt/income and 88% debt/asset. The percentages were lower earlier this year but I had an opportunity to get 41% returns on the secret investment I commented about on another of your posts. I applied for a $20,000 Prosper loan and a $16,000 Lending Club loan at the same time and got approved for both. At 12.50% and 10.02% APR, respectively. Arbitrage is totally working in my favor! How’s that for a real life example of how debt can be an enabler for wealth?!
Hi Sam,
I just saw your dark sides to a early retirement article on the first page of Yahoo. Congrats!! If you keep this up we will have to refer to you as Mr. Samurai!
Pretty cool stuff huh? One day I might be rich and famous! Related: https://yakezie.com/207125/featured/blogging-is-like-fishing-you-never-know-what-youre-going-to-catch/
Will you be able to resist taking on more debt by purchasing another property if this 20% or even 10% correction comes to fruition? I’m sure there will be some great property deals during that time.
Probably not. I do want to buy my Kahala dream property in Honolulu in three years. The market now is soft and will get softer.
Hmm…rough numbers
Ages = ~35
Debt/Income = ~2
Debt/Assets has a small decision point. With my pension it’s ~26%, but without my pension it’s ~38%. The second number is probably more accurate as I can’t actually cash out my pension (though my confidence in it is quite high).
So we are conservative to moderate depending on what you’re looking at. It makes sense to me, though. I know where my comfort level is (leaning toward moderate) and I’ve been willing to stretch just a little further lately as our debt has decreased significantly due to transferring some money from cash to pay down loans.
Interesting stuff. I’m just too nervous at using debt as leverage in order to get more gains. I don’t even have a margin broker account, lol. I agree with your “nicer living arrangements” value of debt reason #1. We generally are at home on the evenings and weekends and when we are sleeping. So a good portion of our lives are at home. At a certain age, and if we need to acquire some debt, why not live in a nice home plus property unlike a car appreciates in value over time. Of course, this may not make sense for people who have to travel for work all the time.
We are currently off the chart conservative. <100% and 30 years old.
I keep going back and forth on getting a rental property. Perhaps I should take a touch of risk and at least get myself on your chart before I'm 35.
Debt agreements should be entered into with the same amount of thought we use to enter into marriages (hopefully we use alot), because once you’re in, it’s not as easy to get out.