Control Your Debt With an Annual Clean Sweep
If you choose to use debt to manage fluctuations in cash flow, simplistic advice to live debt free isn't helpful. Here's a simple, practical test for keeping your debt under control. (See also: How Debt Fools People)
If you spend more than you earn month after month, you're letting your debt get out of control. On the other hand, sometimes there are expenses that you can genuinely afford that you just don't happen to have cash for when they need to be paid.
For example, maybe you don't have cash on hand to pay for the tux rental when your best friend asks you to be in his wedding. The cost of floating that expense on a credit card might be only a few dollars — easily worth it, if the alternative is telling your friend to get married without you. Or maybe you don't have cash on hand to buy pots, pans, and kitchen utensils when you're moving into your first apartment. If the alternative is eating out in restaurants, maybe outfitting your kitchen on your credit card will actually save you money. In any case, the interest payments from that one purchase, if paid off promptly, will be small.
When Does Occasional Credit Use Become Problematic?
The problem with using debt at this level is not the expense of the interest that you're going to have to pay. The problem is that, between paying off your old charges and charging the occasional new thing, it gets a lot harder to know for sure that you really are just managing fluctuations, and not living beyond your means.
A useful tool for verifying that your debt is under control is an annual clean sweep. Pick one month during the year when you'll pay off all your revolving debt.
It doesn't really matter which month it is. Doing it in January might be obvious, but collides rather badly with Christmas expenses. If you're a student, maybe do it in June after school is over, or do it in August before the semester starts. The month with your birthday might be a good choice — you'll feel the pinch of all your own cash going to pay off your debts a bit less in a month when you get a few presents.
Whatever month you pick, that month you pay every bill in full — and on your revolving debt pay every balance down to zero. That's what makes it a clean sweep.
If you can do that without cheating, it's a pretty good sign that your debt is under control.
Of course you know that living debt-free is cheaper. Every dollar that you pay in interest is a dollar that doesn't go to supporting your standard of living. In the longer run, you'll want an emergency fund that you can use for unexpected expenses so you don't have to rely on debt. But a few dollars in interest payments can be a pretty cheap way of keeping circumstances from whipsawing your standard of living. And with the clean sweep, you can tell the difference between that and letting your debt get out of control.
Have you tried a clean sweep to close your revolving debt and test your debt management?