Pay Your Debt Off Fast! But, Is It Really The Best Advice For You?
It almost seems like it was drilled into us while we were still in the womb
. Of course, everyone knows that the best way to deal with any type of debt is to eliminate it, right? Yes, we know that is right, we clearly want to eliminate the debt as fast as we possibly can to reduce the interest that will build on the loan with time. Right again?
Or wrong? I analyzed this pay off debt quick approach and realized that it might not really be benefiting the consumer (YOU) much at all! It does seem to benefit someone though, as things of this nature often do.
Okay, lets take an example. You have a loan for $10,000, at an interest rate of 5% APY for the term of 5 years.
Now, take the worst case scenario into consideration, lets say that you only paid your minimum payments on this loan for the entire duration, essentially, accruing the maximum amount of interest possible for that loan.
The amount you would end up paying back would be $10,000 multiplied by .05 = $500
So, $500 is the interest you would pay on this loan each year of the term.
Therefore, $500 multiplied by 5 years = $2,500
So, $2,500 would be the total amount of interest you would pay on that loan for the entire term. This interest is added to the original loan amount.
$2,500 plus $10,000 = $12,500
The maximum amount of money you would owe on this loan would be $12,500.
Now, we have been taught to try to pay that loan off as fast as we can to try to save a little of that $2,500 in interest. Correct?
But, what if you consider INFLATION? The inflation of the U.S. dollar occurs at such a rapid rate that it actually impacts you debt in a positive way, if you are the consumer (YOU, Yeah!).
Think about it this way, as the U.S. dollar loses value and inflation goes up, the value of that $12,500 actually becomes smaller over time. So there is an inverse relationship between inflation and your debt. As inflation goes up, your debt will shrink! Neat!
Another way to conceptualize this is to realize that inflation essentially means the U.S. dollar is going down in value, therefore, your loan of $12,500, in U.S. dollars, is going down in value too! So, with time, your loan loses value because of inflation. Now, that almost seems to say the polar opposite of pay your debt off as quick as you can.
As for who benefits, well, who do you think? Who stands to lose if the bank gives you a loan, inflation occurs, and when the loan is completely paid back, because of inflation, the bank has actually gotten less. When you hurry up and pay that loan off for the bank, they are essentially untouched by the threats of inflation! THE BANKS BENEFIT WHEN YOU PAY THAT LOAN OFF QUICKLY!
Then who usually has to deal with the repercussions? The poor and the elderly.
You just might want to reconsider throwing all that extra money on your loans!
Why not use inflation to your advantage, not too many options to shrink your debt in this day and age, and make the bank share some of the burden too!
by: Lisakailee
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