This is how monthly payments look in space.
I’ve been told there was once a time where people actually paid for things up front and in full. Cars, houses, education and such were paid for with cash and then utilized to the best of the person’s ability. A person or persons simply saved up the money required for a car, for example, paid for it in cash and drove it off the lot, knowing that it is now theirs to take care of with no extra payments to speak of. I don’t know if such a time ever existed or will ever exist again, but it does sound nice.
If there is one phenomenon that can be pinpointed as the sole reason of financial hardship for so many people nowadays, it is the ability to get whatever you want by paying for it monthly. This is the prime reason that people are getting poorer and the banks are getting richer. It seems there is always a monthly payment due for so many things, and new ones seem to crop up every few years.
Let’s take the ultimate never ending monthly payment as an example, the home mortgage. Playing with some mortgage calculators, I wanted to find how much would be spent on a $200,000 home if the buyer had a 20% down payment and took out a 30 year loan at 4%. A 20% down payment is the industry standard for a “recommended” down payment amount and a 4% rate on a 30 year loan is considered great in any time period. This savvy home buyer thinks he got a deal, and in some respects he certainly did. But according to the calculations, if he makes his minimum mortgage payments on time every month, he will end up having paid $349,991.21 at the end of the 30 year loan. So he will end up having paid almost $150K extra for a 200K house. Doesn’t sound like a great deal to me.
Now there are things to take into consideration such as the mortgage interest deduction and appreciation of the home, but those are very variable as not everyone always qualifies for the interest deduction and the market can go up and down. Many people don’t even save enough for a 20% down payment and buy more house than they need, so the amount of money paid at the end of the loan can be much higher. The bottom line is, it is in the bank’s best interest to get us caught in the seemingly infinite loop of monthly payments. They get a steady stream of income from the home owner, while getting much richer in the process because of interest payments. The buyer gets a house to live in, which is nice, and may or may not make some money in the process depending on market conditions.
This is not only limited to houses anymore. Cars loans are a MAJOR profit center for banks. They provide a continuous stream of income for loans that are 3-5 years long, which is the amount of time that many Americans trade in their cards anyway. And since most Americans have multiple cars, you can see why the banks and the auto industry love car loans. The other thing they love about car loans: the buyer isn’t going to be making any money off of the car. Houses can and usually do appreciate somewhat. Cars almost always depreciate in value. If there is a more one sided transaction out there that everybody does other than the car loan, I would love to hear it.
The monthly payment loop is not only firmly entrenched in the home and auto industry, but in consumer products as well. How often do you see appliances, another guaranteed depreciating product, being advertised as affordable because of no or low interest payments for the first year? You can get pretty much any type of appliance or electronic on a monthly payment plan, especially at those God awful places like Rent a Center, where everything is advertised only in monthly payments. These products provide no long term financial benefit for the buyer, who usually trades them in for the latest model after a few years anyway.
And the ultimate monthly payment cycle? Credit card debt. If the store is not offering a product on a monthly payment plan, thank goodness Visa is giving you the option. Just charge the amount of the appliance in full, and make monthly payments on it until it’s paid off. Most credit cards have very high interest rates, some in the area of 20%. Can’t think of a worse deal. I write about how I love using credit cards and getting rewards, but this is NOT the way to be using them. This is a way to get into financial trouble in a hurry.
Thanks to savvy marketing and unending greed, most people in our society are wired to think about money in terms of monthly payments. If you can swing the monthly payment on the house, two cars and the new dishwasher, that means you can afford it, right? Maybe. But you are doing your current and future self a huge disservice by having your money tied up in products like these. Imagine not having a $300 car payment and instead investing that money in your company’s 401k or using it to pay off debt? That is the way to financial freedom. It’s tough to get out of the infinite monthly payment loop, but doing so will get your finances back on track.
Unfortunately, we live in a highly consumer oriented society where borrowing to buy things instantly is the norm. This phenomenon buries so many households in debt, but it also helps drive the economy (for better or worse). One could also make the argument that borrowing to buy is worthwhile from the perspective that it can be leveraged to better yourself. In other words, sure, a car is a non-appreciating asset. But owning one helps you get to a job that you normally might not be able to commute to. Saving up and buying in lump sum is preferable. However, if you can earn extra $’s by commuting to a job that you otherwise couldn’t, then it’s a worthwhile move to incur the debt. In practicality, it doesn’t really work like that though. I’ve no doubt people will continue to live in debt for the foreseeable future. The winners will be those who buck the trend.
That’s a great point on using monthly payments to create leverage. Some do the same with houses, by buying them, sprucing them up and then renting them out. Unfortunately, this is not the norm as most people fall into the trap of biting off more than they can chew based on their monthly payment. Not all debt is bad, but all debt is certainly not fun and it can keep you from cashing in on any opportunities than can rise. Thanks for the great comment.
A couple years ago I bought a lawn tractor, one of my friends at work asked me what financing I got on it, and everyone at the table looked at me like I was crazy when I said I paid cash for it. I’m not getting in debt for a car, I’m certainly not getting in debt for a lawn tractor. It drives me crazy when I walk through Lowes and they have all these ads throughout the store for 84 month financing.
Yeah Home Depot and Lowe’s are big on financing. That’s funny everyone thinks your crazy for paying cash. In my experience, the “crazy” people are the ones usually doing the right things financially.
So many people don’t ask “how much does it cost?” but instead, “how much is the monthly payment?” Just because you can afford the monthly payment doesn’t mean you can afford the item you’re purchasing. The only thing we have a loan on is our home. I’d never take out a loan to buy a car again. We buy used and buy what we can afford to pay for in cash.
You’re definitely right. Pressure from society makes it so tough which is why a lot of people get sucked into it. You can literally drive a car off the lot by just signing a paper. That’s great and all, but that high will certainly wear off once those bills come due.
In a perfect world, I’d pay for absolutely everything up front (well, with my credit card to get the rewards, and then pay off the card right away). We do have a mortgage (there is no such thing as a $200,000 home were I live – there’s hardly such thing as a $300,000 condo), but that’s it for debt and monthly payments. We are working to pay it off more quickly than our amortization term.
Paying for everything up front would definitely be a perfect and logical world. Unfortunately we don’t live in one of those. Great job minimizing your debt.