We hear a lot in the media about two very important personal financial issues – no savings and high debt. The problem is that the two are usually discussed individually. It’s as if they’re independent of one another. But I’m convinced that no savings and high debt are connected – intimately – and the link isn’t a coincidence. People who have no savings typically have high debt. It’s a natural combination, and a very unfortunate one.
Let’s discuss the two – no savings and high debt – individually, then combine them to get the full effect. After that, let’s talk about what you can do to get out of both circumstances at the same time.
We’re going to cover the two together in this article because you can’t fix one without resolving the other.
Let’s start by painting a clear picture of the extent of both personal financial issues.
The Dismal Savings Record in 21st Century America
Only 39% of Americans can come up with $1,000 for an emergency. The rest would have to use a credit card, take a personal loan, borrow from family or friends, or cut expenses.
If we take that statistic to its logical extreme only 39% of American households remotely qualify as middle class!
Technically speaking, the inability to come up with $1,000 – or even $2,000 – means you’re really part of the working poor. That means you might be living a life that approximates middle class on the surface, but you’re so far on the financial edge that a single emergency, or the loss of a few paychecks, could bounce you out of the middle class in a matter of weeks.
Now, I don’t want to blame this situation squarely on individuals. If you’ve spent much time on this blog, you know I attribute much of the precarious state of Americans’ financial situations to big picture issues:
- A seriously underreported rate of inflation.
- Chronic job and career instability.
- A steady trend toward lower wages in most occupations (for all but the top 10%).
- A relentless increase in the basic cost of living, like housing, healthcare, and automobile ownership.
Auto expense is particularly troublesome, and probably the biggest “stealth expense” in most households. We consider them a necessity, but the average cost to keep a car is over $8,000 per year, and most households have at least two.
None of these problems are the fault of any individual. But at the same time, no one will help you if you’re living on the financial edge. It will take effort on your part – probably radical – to change your circumstances for the better.
Rising Consumer Credit Levels – Americans Owe More than Ever
If you’re not a numbers person, I understand. But please bear with me as I throw out a collection of statistics. They’re necessary to prove the high debt side of this discussion. To make it easier, you can ignore the numbers themselves, and focus on the percentages toward the end. They’re what’s really relevant.
Let’s look at total consumer debt in America for each decade going back to 1950 (as of June of each year). The statistics are according to the Federal Reserve, and include credit cards, auto loans and student loans, but not mortgages:
- 1950, $21.1 billion
- 1960, $58.4 billion
- 1970, $129.2 billion
- 1980, $346.7 billion
- 1990, $802.9 billion
- 2000, $1.609 trillion
- 2010, $2.520 trillion
- 2018, $3.907 trillion
So how do these consumer debt numbers stack up when compared to a broad measure of the total US economy, like gross domestic product (GDP)?
Once again, according to the Federal Reserve, GDP was roughly $2.8 trillion dollars as of June, 1980. As of June, 2018, it’s about $20.4 trillion.
From 1980 to 2018, America’s GDP grew by a factor of 7.3. Consumer debt however, grew by a factor of 11.3.
Put another way, consumer debt has increased about 55% faster than the total US economy since 1980. In fact, consumer debt has increased by 55% just in the eight years that have passed since 2010, which roughly corresponds to the end of the Financial Meltdown. In the same eight years, the GDP has increased by just 37%. Consumer debt is consistently growing at a faster rate than the total US economy.
This is a major reason why so many Americans feel poorer, even thought they’re making more money. An increasing amount of income is servicing the rising debt levels, which lowers disposable income.
Bringing National Statistics Down to the Individual Level
OK, the statistics bear out the reality that consumer debt has been growing at a rate well in excess of the national economy. That has consequences, and anyone who’s in debt is well aware of that reality.
But what can you do about it?
No matter what anyone says or writes, getting out of debt is NOT easy! There are fundamental reasons why people can’t get out of debt that are totally ignored by the blame-the-debtor champions. I’m not saying it’s never the debtor’s fault, but debt is becoming a systemic problem at all levels of society.
It’s difficult to get out of debt for all the same reasons it’s hard to save money. But there’s a difference between hard and impossible. And as I’ve found in my own life, overcoming adversity is an incredibly empowering experience. Put another way – getting out of debt, regardless of the struggle, will be an incredibly empowering experience.
There are some challenges that are worth taking on, regardless of the difficulty. The payoff is too great, and the penalty for staying where you’re at is too confining.
When Credit Becomes “Savings” Your Fate is Sealed
Here’s where the connection between no savings and high debt reaches the crisis phase.
If you have no savings, you’re forced to turn to credit. Once that becomes a pattern, credit becomes your “savings”.
I once worked for a CPA who admitted to having no savings, despite being part of a high earning, two income couple. His “savings” were the unused portion of his home equity line of credit (HELOC). If the HELOC had a total limit of $50,000, and he owed $22,000, his “savings” was $28,000.
That sounds absurd on the surface, but I believe it’s more typical than most people will admit. I saw a lot of that when I was in the mortgage business. People use their HELOCs as their savings. Millions more do it with credit cards. $3,500 owed on a $10,000 credit line translates to $6,500 in “savings”.
You may not call it that, but that’s how it functions.
Many millions of people live this way, and it’s a dangerous delusion. It may seem like a safe strategy – as long as you maintain good credit, a stable income, and ample unused credit limits. But you’re flirting with disaster, because a negative development with any one of those three circumstances could topple the whole strategy. That would leave you with no savings – real or imaginary.
There’s an even more fundamental problem with using credit as savings. Anytime you access those lines, you’re creating a corresponding liability. Not only is there more debt added to your existing debts, but you’re also adding a fresh monthly payment.
That’s not at all what savings are or were ever intended to be. And if you maintain your finances that way, you are absolutely flirting with disaster.
Is it any wonder 78% of Americans are living paycheck-to-paycheck?
The Payoff of Becoming a Saver
Before we get into savings strategies let’s first recap the benefits of being a saver. It may be just the motivation needed to get you to become one.
Lowering your stress level. Life in the 21st century is stressful. But if you’re living on the financial edge, it’s even more so. Every unexpected expense can send you into a panic, as can any lower-than-expected income source. Having savings will insulate you from much of that stress.
Keeping small problems from turning into big ones. Picture this scenario: you get an $800 car repair bill, but you have zero savings. Now you have a big problem.
But let’s say you get the same car repair bill, and you have $5,000 sitting in the bank. What could have been a big problem is now more of an irritation than anything else.
Irritations are a part of life. But big problems are to be avoided. Having savings can help you do just that.
Avoiding health problems. So far we’ve been talking about the financial problems that come from a lack of savings. But those can contribute to health problems. Examples include a lack of proper sleep, excess eating, excess alcohol consumption, and constant worry. Each has the potential to wear down your body. Eventually, they can lead to serious health conditions. Even a small amount of savings may be the best possible medicine.
Creating options. If you’re broke, you’re pretty much stuck. Whether that’s a bad job, a car that barely runs, or an unsatisfactory living arrangement. A lack of savings can keep you locked into bad situations. But if you have adequate savings, you can make job changes, buy a new car, or even move to a new home. Savings enable all that to happen.
Once You Become a Saver You Can Make Your Debt Problems Go Away for Good
Since there’s a strong link between no savings and high debt, building up savings is probably the single most important strategy for getting out of debt.
Most people can’t get out of debt because they’re stuck in a Catch-22 situation. They may be paying their regular bills every month, including their credit cards. But if any financial disruption comes they have to tap a credit card. Because there are no savings, credit becomes the preferred option for dealing with financial emergencies.
Before you can get out of debt, you first have to learn to live without it. The only way to do that is to develop an alternative funding method. Having savings is the best solution. Whenever a financial emergency erupts, you can use savings, rather than running up your credit cards or tapping some other loan source.
Naturally, this will require either lowering your living costs, developing additional income sources, or using a combination of both. For a time, you’ll need to direct the additional cash flow into savings. Along the way, you’ll also have to make your regular monthly payments on your credit card bills.
This will accomplish two goals at the same time:
- Building up savings, and
- Gradually paying down your credit card bills just as a result of making the regular monthly payments, and not borrowing more against them.
If you can continue this pattern long enough, you’ll eventually reach a point where your savings will be higher than your credit card balances. When that happens, you’ll have a choice to either pay off your credit cards completely, or continue on your path of gradually saving money while paying down your cards at the same time.
This is another example of how having savings creates options in your life.
How to Become a Saver
Rather than detail several strategies on how to become a saver – and to keep this article from getting longer than it already is – I’m going to recommend you read the following articles on the subject:
These are two strategies I strongly recommend. But you can and should use any method that works for you. The most important step is always getting started. Today is an excellent day to do that. The longer you put off any venture, the less likely it is you’ll ever actually do it. Remember, good intentions don’t equal action.
Start now, even if it means saving just $20 this week. You can gradually build the amount over time. Eventually it will become the kind of money that can make a difference in your life.
Final Thoughts on No Savings and High Debt
Some people recommend paying off debt ahead of savings. I get the basic idea – if you can get your debts paid off, you’ll have more money to plow into savings.
But the problem with that approach is that it doesn’t do anything in the near term to alleviate the lack of savings. While you’re busy paying down debt, money is not making it into a savings account. If an emergency should come up, you’ll once again need to turn to your credit lines.
But if you begin by emphasizing saving money, you’ll already begin building reserves you can use in an emergency. That approach will take you out of the business-as-usual approach that got you in debt in the first place.
That’s important too. Any time you want to make a major change in your life, the first thing that has to go is business-as-usual.
As the saying goes, if you do what you’ve always done, you’ll get what you’ve always gotten.
Also, getting into the habit of saving money is a critical step. The sooner that begins, the more effective it will be. Saving money is both a habit and a lifestyle, and you’ll need to get comfortable with both. Paying down debt, while certainly constructive, doesn’t create the all-important savings habit.
Do you have any strategies you can recommend to help others begin saving money?