The best way to measure your financial security is by calculating your debt-to-cash ratio. Having a lot of debt lowers your financial security. Whereas having a lot of cash increases your financial security.
The lower your debt-to-cash ratio, the strong your financial security and vice versa. Using debt to buy a house that is appreciating in value is great. But using debt to buy a house when it is depreciating could cause problems if you don’t have enough cash on hand.
Your Debt-To-Cash Ratio
One of the reasons why I want to rebuild my cash reserves back over $100,000 is because of financial risk. With two rental mortgages to pay and no steady job, having less than $100,000 feels irresponsible. Further, I’ve got two young kids to take care of.
Theoretically, I could lose all my tenants and therefore have to shoulder both mortgage payments on my own. In such a scenario, because of property taxes, an HOA fee, maintenance, and mortgage payments, $100,000 would be exhausted in 12 months.
Going off a gut feeling to determine how much cash to have is OK. But it would be nice to formalize a debt-to-cash ratio to see at what level debt is too much.
Because of excessive debt, way too many people got their heads blown off during the last financial crisis.
Today, we once again see plenty of people borrowing from their home equity to buy things they don’t need. It’s so funny how quickly we forget about the risk of having too much debt!
With uncertain times here again and interest rates up a lot since the 2021, increasing your financial security by reducing debt is wise.