The debt to cash dilemma

Words: Byron Tully

Photo: The Great Gatsby© Warner Bros

I received an email recently concerning personal finance. A reader of the blog had received a modest inheritance, all cash, from a deceased relative.

Their present financial situation is the following: they have a steady job with a fairly good income with some savings. Their expenses are modest, having read and followed much of my advice in The Old Money Book. (I’m not bragging; I’m honored.)

They have some cash and some equities in their portfolio, but they are not financially independent and certainly not rich. Furthermore, some credit card debt and student loan debt are still on the books. The total cash inheritance almost equals those two debts combined.

The question this reader had for me was this: ‘Should I use the cash inheritance to pay off (almost) all of my credit card and student loan debt in one go? Or should I hold the cash and continue to pay off my debt month by month?’

I replied, but did not immediately offer an opinion. Instead, I offered to share this inquiry with the Tribe, offer my advice, and also open the forum for other members to contribute their advice…and their reasons for it. They agreed to have their dilemma open for discussion.

So consider your response carefully, and throw in as much experience, logic, and math as you wish.

Here, in brief, is my advice, based on my experience and preferences, and what I’ve learned about human behavior…

I would advise for this reader to hold on to the cash. Put the entire amount into a money market account and earn a modest but steady return. Continue to pay the student loan and the credit card debt each month.

You may pay more interest in the long run, but know this: credit card debt is usually, but not always, the result of bad spending habits. If it takes you 6 months or a year to pay off that credit card debt, it will be expensive…and painful. That expense and that pain will lock into your brain and make you very reluctant to accumulate credit card debt again. Indeed, you may opt to only use a debit card or American Express card, paying your balance in full at the end of each billing cycle. You will be more inclined to live your life going forward on a ‘cash basis’, never spending more than you earn and always earning more than you spend.

As for the student debt, that represents an investment in your future. A lot of people have that kind of debt. Still, I would be reluctant to part with the cash inheritance to pay it off.

I say this for a reason: one of the most difficult things to do in life is to save money. Advertising bombards us daily with temptations and life sabotages us occasionally with unpleasant surprises. Both of these can drain our cash, and in doing so, compromise our financial security.

If you are lucky enough to have inherited cash, hold onto it. Party or splurge with one percent of the after-tax total, and save the rest. Consider investments later. Pay off debts over time with existing cash flow. Let the dust settle.

What I have seen happen to other heirs is this: in the first six months to a year of having received the windfall (large or small), they change their minds have a dozen times about what they might want to do with their money and their life, now that they have more money. Ideas come and go, some very wise and some terribly foolish. Only patience and time, combined with seasoned advice and careful consideration, can act as an effective filter.

Finally, on a very rare personal note, understand that your Uncle Byron loves him some cash and gold. The reasons for this are historical and individual. I’ve seen the ups and downs of the stock market. I’ve seen people who are rich on paper on year be broke as hell the next year.

Yes, the market does beat inflation overall over the long haul, and, managed well, it can provide financial security and even make one wealthy over time. The trick is finding a investment advisor who’s in it for your well-being, not theirs, and being able to stomach the turbulence associated with the stock market over time, and in these tricky times. And there’s no guarantee that a black swan event won’t wipe out a decade’s worth of careful investment in one fell swoop. Know that, my darlings.

Personally, I don’t care to worry about world events or stock market fluctuations. I have several sources of predictable income that more than cover my monthly expenses. And I have a stack of liquid assets that keep up with inflation, sort of, ish, but I don’t really care because I’ll probably never touch it. That’s just the way I’m made. Once cash comes in and becomes principal, it never goes out…

So I’m in a comfortable, fortunate position, but I still suggest holding cash first, then investing additional liquid after you have 12 month’s work of living expenses (or more) in the bank, even to others who are not in the same position financially.

Of course, I don’t give investment advice. But I do sleep well at night.

I look forward to being contradicted and even derided by some of our community. Please put forward your own well-thought-out advise. Share your experiences as you wish.

Thank you.