Most of us gather debt during our younger days—cars, credit cards, student loans, etc. So the question becomes, should we consolidate debt to assist in the repayment process? There are a few positives to consolidating debt and one giant negative. Let’s jump into this significant decision.
A huge reason why Kris and I could get out of debt in less than two years was debt consolidation. We could consolidate some of the little ankle-biting debts into a larger loan with a better interest rate.
On the surface, debt consolidation seems like a win-win across the board. More manageable payments, lower interest rates, and a firm debt repayment date. Who could ask for more?
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The massive negative for debt consolidation is Free Cash Flow. You see, when you consolidate debt, it should free up a sizable chunk of free cash for your daily operations. Therein lies the problem, what are you going to do with the money?
Have you ever wondered why people who win the lottery go broke after 4-5 years? How about football players who earn millions of dollars? They also suffer the same problem, free cash flow and no idea how to handle it.
In my article “Start Investing or Pay Down Debt?” I recommended that people start investing before attempting to pay down debt. When you start investing, you will realize the two truths about the power of compounding.
Truth #1 is that compounding is the most potent force working with you to build wealth when investing. Truth #2 is that compounding is the most powerful force working against you draining your wealth when accruing debt.
As you become a savvy investor, you will understand the true nature of the debt industry. Credit cards are made never to be paid off, student loans are made for lingering around, and interest on both accumulates daily. As an investor, you will begin to hate debt absolutely. It is your worst nightmare.
Good Debt vs. Bad Debt
The biggest negative of consolidating debt is using your newfound cash flow to accumulate more liabilities or incur more debt. Freeing up cash flow without a place to invest is not wise.
If you received $100,000 today, where would you put it? Would you pay off debt? What would you invest in—business, real estate, commodities, paper assets, or cryptocurrency? If you don’t know, it is okay; however, these are the questions that should always be on your mind.
It is the absolute same if you free up cash flow from debt consolidation. If you were to free up $500/month, where what that money go? How would you convert that money into more cash? When your money earns money, this creates true wealth.
As Kris and I paid off debt and consolidated loans, the new cash flow went immediately into investments. In fact, I would just line out the debt payment (say car loan) and insert the investment instrument (say treasury bonds). There was no leakage of the money into our pockets or an increase in spending habits.
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Kris and I have an account just for expenses and free cash flow. I have an allotment of $3,000/month going into this account. When we had debt, roughly $2,000/month was going to day-to-day expenses, utilities, and debt.
Today, $800/month goes to utilities and day-to-day expenses, and the rest goes straight into investments—all of it, not a drop of money into our pockets. On any given day, I have access to a couple of hundred dollars. I am usually cash-poor because I want my money working for me at all times.
Until you have the mindset to invest all of your money, I would recommend not consolidating debt. You can get yourself in more trouble if you consolidate too early because arranging your debt into a neater, more cost-efficient package will free up cash. You need to have a use for this cash before you consolidate.
So, where do you learn to invest money and prevent lifestyle inflation? I always recommend the book “I Will Teach You to be Rich.” It has the most practical advice for getting out of debt and into investments. It is the first book of 46 (currently) that I read. After I read this book, I begin to hate debt and avoid it all costs truly.
From there, I would read “Rich Dad, Poor Dad” because it is the best book on financial mindset ever created. If you can comprehend what Robert Kiyosaki is saying, you will become rich. It doesn’t take long to turn the tides in your favor. It is all how you view the world.
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Finally, use some of the resources that I have written. I take all of the information from these books and put it into practical use. Then I leave breadcrumbs for people to follow. I currently have 19 issues of Financial Independence Magazine available. If you were read a magazine a night, for a month, you would have all the information and guidance that I have. I love passing all of my knowledge on to the very few who listen.
Reading is my number form of learning. It is a direct connection between you and someone else’s knowledge. I believe it is the most potent form of education because it is cheap and widely available. On that note, I just released a book called “How We Plan to Retire on Dividends” that may assist you as well.
The answer to the question “Should I consolidate debt?” is relatively simple. If you have a place to invest your money, start building wealth and avoid more debt, then yes, debt consolidation is a great option.
If you do not know where to invest your new money, I would recommend learning the ropes of investing before consolidating. This step will ensure that as cash flow become available, you will make effective use of it. Good Luck!
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Disclosure: I am not a financial advisor or money manager, and any knowledge is given as guidance and not direct actionable investment advice. I am an Amazon Affiliate. Please research any investment vehicles that are being considered. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.
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