THE DEBT TRAP
Plus, they borrow an additional $15,000 each year to send their kids to private schools... And they lease a car. Tom and Kate know they have a serious debt problem... They spend their lives in a constant state of stress – trying to figure out ways to juggle their debt. They consistently live beyond their means. The only thing that limits their spending is the limit on their credit cards. They live in a big house, send their kids to private schools, buy organic foods, eat sushi regularly, drink gourmet smoothies, and wear nice clothes – even though they can’t afford any of it. They even bought their son an expensive new suit at Nordstrom for his high school prom because, while they didn’t have the cash to rent him a tux, they did still have credit available on their Nordstrom card. Although they’re hopelessly buried in debt, certain banks are still willing to extend them even more credit. Even Kate admits these banks would “have to be slightly crazy to approach us with a loan.” But when they apply for one, the banks always seem to say yes. “It’s ridiculous,” Kate says. Like so many other Americans, Tom and Kate are stuck in a debt trap... Tom once cashed out his $70,000 401(k) to pay off three credit cards and a loan. Kate borrowed $40,000 from her parents to pay down her credit-card debt. Her parents thought they solved Kate’s financial problems... But little do they know, the
couple burned through that money long ago and maxed out their credit cards yet again. The couple is so ashamed of their situation that they used pseudonyms when they told their story to financial-planning website Wealthsimple late last year. Kate is pushing Tom to declare bankruptcy, but he worries that will hurt his future job prospects. The family is just one job loss, personal crisis, or economic downturn away from no longer being able to juggle their debt. And then the house of cards they built will come crumbling down. It’s only a matter of time. But Tom and Kate aren’t alone. There are millions of overleveraged consumers who can’t distinguish between a “want” and a “need,” refuse to live within their means, require a certain standard of living, or use most of their available credit without knowing when or how they’ll pay it off. They live on the edge of default. Credit agencies refer to these folks as “subprime.” Certain banks specialize in providing revolving lines of credit to subprime borrowers. They charge these risky borrowers much higher interest rates than prime borrowers. The business is incredibly lucrative so long as the interest rates are high enough that they can generate more money than they inevitably lose in defaults. In recent years, a strong economy, low unemployment, and low interest rates meant it was easier for people like Tom and Kate to juggle all the debt. So it was a perfect
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April 2019
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