Ah, debt. That nasty four-letter word. No one really enjoys debt, and as we have pointed out in the past, it causes a lot of stress on families. A friend once quipped that DLS is in the debt business. But Pete and I are actually committed to helping our clients remove as much debt from their lives as possible. It’s all about scaling back, getting lean, learning to manage your money more effectively (more on that next week) so you can be debt and stress-free.
Good Debt, Bad Debt?
But you still need to have some debt right?
Not many can genuinely save $600,000 to pay cash for a home (sometimes more depending on your location) in a reasonable period of time. Hence, home loans. Not many want to part with $40,000 for a new car and leave themselves with no savings. Hence, Car Loans. Yes, if you can genuinely save for that car upgrade, and still be on top of your finances – then you should. I was recently chatting with a client regarding her current loans and she made the comment ‘but at least that’s good debt – I need to get rid of my bad debt’.
So it got me thinking – what is good debt and what is bad debt? What are the characteristics that make them so?
You have to think about your relationship with your debt – is it healthy? What can you do to improve it? What needs to change?
In the accounting world, bad debt might be seen as one that isn’t tax deductible. Using that logic then, your home loan debt could be seen as ‘bad’ debt, but an investment loan as ‘good’ debt. On the counter to that, you home loan repayments (debt) might be just as much as paying rent on the same property, whereas you investment loan might be costing you over $100 each week, even after the tax deductions – so how is either good or bad? We have clients who genuinely use their credit cards very effectively to manage their monthly finances. They have systems that work to make sure the cards are always paid down before the due dates. Does that make that bad debt that is just managed well?
It’s about understanding your relationship with debt, and how you view it.
Hence, we propose a new definition. There is debt you need (like your first mortgage, or finance to set up your new business), and there is a debt you (might) not need – like that 3rd Credit Card or that interest-free store card you used to buy your new TV with. It isn’t our place to tell you what to define as necessary or unnecessary debt, but we do make it our mission to help people analyze their situation, find ways to save more money and become aware of how debt can be holding them back.
In some cases, this might mean strategising to sell investments, pay-out all existing facilities (credit cards included!) and live with just one (gasp!) mortgage. We have worked with plenty of clients who chose to adopt that very approach to their debt – and they couldn’t be happier. We have also helped clients review their spending strategies, put into place some key behavioural changes, and save enough money to buy their first home. Only 6 months ago, we helped a young couple access funds to fit out their Yoga Studio, which meant they no longer had to use personal credit cards to pay for business costs.
It’s all about what is right for you, what you are comfortable with and how it fits with your short and long term plans.
So yeah, debt can be a four-letter word but it doesn’t have to dictate your life. You have to think about your relationship with your debt – is it healthy? What can you do to improve it? What needs to change?