“They are the same thing – loaning money I don’t have – I’d rather not risk my lifestyle having a debt!”
The best way to define a “bad” debt, is when you borrow/ leverage money to purchase something that generates a loss (also known as a liability). A good example of this is a car, flat screen TV or a doodad, simply because they depreciates in value. The best way to define a “good” debt, is when you borrow/ leverage money to purchase something that generates profit (also known as an asset). A good example of this is an investment property.
Most people generally tend to have more bad debt than good, such as;
– Credit cards
– Car loan
– Personal loan
– Holiday finance
– White goods finance
Sounds familiar doesn’t it! Don’t get us wrong, it’s not an offence or anything, but keep this in mind – by decreasing these debts, you are more likely to steer yourself in the right path of financial success.
On the other hand, some people think having a debt is a taboo/ sin/ whatever they want to call it – so they don’t believe in buying a property until they have earned their money to pay their house in cash. That can do – it’s just going to take them longer that’s all. Yes, debt is a risk, it is leveraging the bank, and you may not be able to repay that if you quit/ lose your job.
That’s why without a doubt, you must budget. Manage your finances as early as possible. Good debts are risks worth taking, so you can generate more income. If you don’t take the risk, you won’t know what you can achieve.
Likewise, bad debts are risks too. Having them might be inevitable but sometimes you can prevent it! A simple formula to avoid bad debt is: if you can’t afford it, don’t buy it.
If you decrease your “bad” debts the banks are actually more likely to provide you with “good” debts such as home loans, which if you use correctly, will grow your wealth.
TIP: Chat with a mortgage broker about your ability to leverage “good” debt. They should let you know if your level of “bad” debt is acceptable to the banks or not, and how to get rid of these as soon as possible.