Managing Debt, Income, and Savings

There’s a new book out by Thomas Anderson, The Value of Debt in Building Wealth. The title gives the impression that people should be in debt to maximize wealth, but that’s not what it says, according to this review. Instead, it says that people should be focus on either being debt free or leveraging their finances. Instead, there’s an optimum balance of income, savings, and debt that most people overlook or don’t know about. People at different stages of life and in different financial situations should look at debt differently.

The key criterion isn’t how much money you have. What matters—and what determines your progress from one end of the wealth spectrum to the other—is how you balance the various components of your financial life: income, savings, and debt.

It’s all about getting the proportions right. If your net worth is less than half your annual income, for example, you should “avoid taking on any new debt” at all. If you’re in Anderson’s second phase, more or less where I land, you should aim for: no “oppressive” debt; a cash reserve six times your monthly gross income; retirement savings six times your monthly income; and last but not least, you should have a separate pot, for “big life changes,” like marriage or buying a home, equal to nine times your monthly income.