Through my various readings I’ve recently come across the term, “middle class poverty”. At its base, the term is a contradiction. “Middle class” is used to describe a person or family that is financially in the middle of the economic ladder. They cannot be in poverty because they would contradict their standing as middle class. Yet, knowing and understanding this contradiction does not stop me from grasping to understand the concept that is being expressed.
Poverty is the state of being extremely poor and middle class is the socio-economic group between the upper and working classes. We do known though that middle class people and families sometimes do lose their house to foreclosure, have items repossessed and declare bankruptcy. Throughout all these calamities, they most often stay within the perceived middle class, though they exhibit characteristics of a person or family in poverty. How could this happen?
The funny thing about the human condition is that we’re endowed with an interesting faculty known as free will. Some people like to deny they have free will and act as if fate has destined them to fall into a number of predicaments. The reality is that you have a good amount of control over your actions, especially your financial actions.
Given the monthly income you earn, you have the ability to spend the money as you choose. You can take your money and blow it at the casino, mall or any other outlet you can think of. At the end of the month you end up with $0 in your wallet or a $0 in your checking account (probably both). The next month starts and the cycle continues.
In the situation above, you have your middle class wage earner stuck in a cycle where lousy financial decisions are being made over and over. It’s a bad situation, but the person is living within his/her means. Barring any sudden disasters that put a financial strain on them, they are middle class and footloose and fancy free.
In today’s world we have more than just our regular income at our disposal. Debt financing is everywhere. Whether it is a credit card, lines of credit, pay-day check advances or other debt offerings, just about everyone can secure additional funds beyond what they currently earn. Obtaining financing through debt is a very powerful tool and can be very beneficial. It also can be disastrous.
Though debt can be a wonderful resource, it does not come without risk for misuse. If we revert back to the spending example described above and blend debt into the equation, it’s not hard to see how the financial path can easily lead to poverty.
When the need to consume goes beyond regular wages or savings on-hand, debt is used as a solution. This solution comes with a cost. The borrowing cost causes our average middle class person or family to begin servicing (paying) the debt they have incurred. The more debt they use to fuel their consumption needs/wants, the more they must service the debt. At a certain point, the liberation they have experienced through leveraging debt becomes an ever increasing burdensome weight.
Debt ultimately imposes financial restraint on the debtor, just as a dead-end street ultimately imposes a speed restraint on a driver. Either can be ignored, but the restraint will be realized in the end. As the debtor begins to see the end of his/her credit limit, actions are typically taken to reshape the impending financial future (disaster). At this point, the concept of middle class poverty begins to take shape. The free will that once was ‘free’ has now given itself over in large part to servicing debt.
A voluntary enslavement has occurred and the enslavement is impoverishing. The wage that was once free to be spent wisely or frivolously is now controlled in part by the need to pay/service the debt that has been used. The increased ability to consume that the debt once provided is gone and now the weight of debt is fully felt. This is an impoverishing predicament. As an increasing amount of income is relegated to servicing the debt, a decreasing amount of income is available for discretionary purposes (food, clothing, shelter…).
The decrease in the amount of the discretionary income, which results from the voluntary enslavement to debt, is the driving force in creating the situation where middle class poverty exists.
Middle class poverty is real because of misaligned and bad choices made by people and families. Don’t let it happen to you.
This article originally appeared in the December 2012 Newsletter.
If you think that the type of house one lives in or car one drives is a good indicator of their financial wealth, then you likely have an underdeveloped understanding of personal finance matters. Your ability to perceive wealth matters to your future because if your perception is not congruent with reality, then the likelihood you will stumble down a flawed financial path will be greater than it otherwise would be.
Why aren’t homes and cars good indicators of wealth? To answer this question, you must understand the nature of a house (primary residence) or car. Housing and cars serve a basic need in life; shelter and transportation. To get through life and succeed, all of us need both, but the threshold is pretty low. For example, an old car that has a bad paint job and a number of dents is a good source of transportation, if it doesn’t mechanically fail. Most people don’t opt for this baseline level of automobile transportation. The point is that after a certain minimum is reached, housing and cars become more of a luxury than a utility.
Luxury items are a liability, while utility items are an asset. Living in a 4,000 square foot home and owing a Mercedes are big liabilities. These items become even bigger liabilities when they are financed through debt. Debt must be serviced regularly, which normally means monthly payments. Monthly payments reduce ones disposable income available, which translates into fewer choices when either buying goods/services and/or investing.
Cars depreciate over time, especially when new, and need routine maintenance, gas to run and insurance coverage. Historically homes do not depreciate in value, but do require routine maintenance, and also require insurance. These facts are not items that lead to greater wealth, but a deterioration of wealth.
Ultimately, what people are aiming to gauge through the car one drives or house one lives in is the standard of living a person can secure given their current free cash flow. The more relevant question in terms of gauging wealth via an automobile and/or house is how much of their monthly free cash flow is committed to serving debt and other regular maintenance on a car or house.
What lies beneath the surface is hard to see and know. This is the problem when gauging wealth based on an automobile and house. Both do not generate wealth, though both are looked at in terms of a measure of wealth. Understanding this connection can go a long way in terms of clarifying your personal finance thought process.