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The Basics

Being debt-free can be costly

Without a credit history, you might have trouble getting a loan should you ever need one. Plus, some debt comes so cheap that your money could be wisely invested elsewhere.

By SmartMoney

Bruce Leckband, 51, doesn't owe any company -- or anybody, for that matter -- so much as a dime. He carries no credit card debt, no car loan and no mortgage. (The Reno, Nev., resident is a lifelong renter.)

"I've always been able to live within my means," he says, "because I save and budget, and then I buy."

Living debt-free? In a nation where consumer debt has become as American as baseball -- thanks in part to the historically low interest rates ushered in by then-Federal Reserve Chairman Alan Greenspan -- the notion sounds somewhat preposterous.

Today the average student steps brightly into the working world with no less than $19,200 in student-loan debt, according to lender Nellie Mae. Flash-forward a few years, and she's soon saddled with $92,600 in mortgage debt and $9,200 in credit-card debt, according to the latest household averages from the U.S. Census Bureau's 2005 American Housing Survey and CardWeb.com.

"Consumer debt is the greatest prescription for damaging your financial health," says Gary Schatsky, a fee-only certified financial planner in New York. And the problem is worsening. Consider this: Since 1995, nonmortgage consumer debt has increased 112% to nearly $2.4 trillion, according to the Federal Reserve.

Given these bleak statistics, you'd think those who manage to be completely debt-free are living on easy street. That's not necessarily the case. Living a debt-free life comes with a unique set of challenges.

After watching a debt-free friend be turned down by every mortgage lender around in part because of his lack of credit history, Leckband now reluctantly owns a credit card that he uses occasionally to keep his credit history active. The fear, he says, is that one day he may need a loan -- the four-wheel drive on his 12-year-old car has gone kaput, making him worry that a car loan may be in his future -- and he doesn't want to find his options limited. "You're expected to have debt to get debt," he gripes.

Some experts take this further, saying that living a debt-free life isn't only potentially a hassle but can be a big financial mistake. After all, not all debt is created equal, notes Sandy Shore, a spokeswoman for NovaDebt, a nonprofit debt education and counseling group. Some debt -- mortgage debt being the classic example -- is tax-deductible and gives individuals the opportunity to improve their quality of life and set themselves up for a comfortable retirement. "If you're going to have something of value when you're done paying it off, that debt is not such a bad thing," she says.

No debt, no credit

In an economy humming along in part because of consumers' happy embracement of debt, those who are debt-free can find themselves viewed more as pariahs than as role models. Most lenders consider a consumer with no credit history only slightly less risky than one with bad credit, says Craig Watts, a spokesman for Fair Isaac, the company that creates the almighty FICO credit score.

"Consumers have proven time and again to be creatures of habit," he explains. "Without some kind of track record, the consumer is a cipher."

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When John Keeling, 50, of Iowa City, Iowa, decided to purchase his first home in 2005, he discovered that having no debts made lenders wary. Keeling had $40,000 to put toward the estimated bill of $83,000 ($58,000 for the one-bedroom home and $25,000 for renovations). Lenders weren't thrilled that he wanted to borrow so little, he says, and his sporadic credit card use didn't help, either. One lender even asked for an additional $2,000 fee for "security" purposes. In the end, Keeling did get a loan -- from his mother. He borrowed $25,000 from her at a 5% interest rate and bought the house outright.

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