Good Debt vs Bad Debt – What’s The Difference?
It is inevitable that most Australians will take on debt at some point or the other during their lifetime. It could be to fund education, a personal loan to buy a new car or cover holiday expenses or take out a mortgage for a home or investment property. But to be able to achieve financial independence it is vital to understand the difference between good debt and bad debt.
Good debt is usually an investment that will increase in value over time and will help build your personal wealth or provide you with long-term income.
Bad debt, on the other hand, will decrease in value quickly and will not add to your personal wealth or generate a long-term return.
Some examples of good debt include:
Historically, property values have consistently increased over time, making owning your own home or investment property a good debt. With low interest rates and a longer time to pay off the loan, typically 25 – 30 years, one can expect the value of the house to double or even triple during the term of their mortgage.
Borrowing to invest in publicly listed Australian blue chip shares is usually considered good debt too. Investing in shares can boost your wealth over time with the potential to earn much more than a bank term deposit.
Investing in your education, whether a University degree or technical skills for a trade will enhance your skill set and increase your ability to earn a higher income in the future. That makes it a solid investment in your future.
With a solid idea and a realistic business plan, borrowing money to get your own business off the ground can be a good debt, paying you rich dividends as the business grows.
Some examples of bad debt include:
It’s easy to swipe and pay with plastic and lose track of how much you’re actually spending. If you can’t manage to pay off your credit card balance in full every month you start paying high interest on the debt you accumulate, so beware.
Car and consumer goods
Taking out loans to buy a car or buy the latest flat-screen TV are examples of bad debt. You end up paying interest on things that depreciate in value quickly.
Borrowing to repay debt
If you are struggling to pay your debt, then borrowing to repay your debt could get you into deeper trouble. Interest rates may be higher and you may just find yourself further in debt.
Borrowing to fund a holiday
Personal loans taken to fund a holiday could leave you with a gaping financial hole to deal with once you’re back from your holidays.
Regardless of whether it is good or bad, it is prudent not to incur more debt than you can comfortably afford to pay back.
Eliminating bad debt should be a priority when aiming to achieve financial independence. Before taking out debt, make sure you have a clear and realistic plan for paying it back, through a series of regular and affordable payments.
At Mortgage House, we’re no strangers to the homeowner’s journey. It’s a long (but rewarding) one.
But don’t worry, we can help with that.
If you’re thinking of buying a home, you can contact us for advice about the best options for you when it comes to your mortgage. The cost of your mortgage can drastically affect your financial planning, so it pays to speak to the experts about it.