In last weeks radio interview discussing my post on how we’re taught that we need debt I was asked right at the end whether one gets good debt and bad debt. This is something that I feel quite strongly about and hence I decided to tackle the topic now.
There is often talk about this “good debt” and “bad debt” concept and that one can in fact have “good debt”. It is possible I guess, but only under some very specific circumstances which I’ll lightly touch on under the heading “Investment Debt”. But in general, debt is debt and all debt is bad as it needs to get paid off at some point. Whether you’re the one paying it off or whether it becomes a burden for your estate to deal with, there’s no such thing as good debt!
Let’s have a look at some of the different types of debt that one can get. I probably haven’t used the financially correct terms but it makes sense to me so I hope it makes sense to you too!
Essential Debt – or what people generally refer to as good debt
Essential debt is really just that, it’s debt that you need in order to survive. People’s views on what’s essential and what is nice-to-have differ greatly, but in my mind the only essential debt would be the following:
A home loan for a modest house. Very few people have the cash available to purchase a property straight up, so a home loan is generally required. It’s understandable to have a home loan but it should be one that you can afford and one that you can hopefully pay off sooner than required. (You mustn’t forget about all the fees involved in purchasing the house as well as the general maintenance costs of owning a house)
Car finance can be considered an essential debt if you really need a car in order to get to work and back. But, a modest and practical car may be essential whereas the nice flashy car with all the fancy gadgets is certainly not essential!
A study loan could also be an essential debt, but it really is not a good debt! It often takes years to pay off and can be quite a strain on your finances.
If you are in absolute dire straits then groceries and living expenses could be considered essential debt. But if you’re in this situation then you are really in deep trouble and would need to consult a debt counsellor and / or financial advisor immediately!
I can’t think of any other essential debt (or good debt) but perhaps you can comment below if you feel I’ve left something out.
The point to take from this is that one does sometimes need to take out a loan in order to make a large purchase, but it really is not good debt and it really is not good to be in any sort of debt. So if you do need a home loan or car finance, be sure that you can afford more than just the bare minimum. If you lost your job or something terrible happened in your family life you could easily lose your home.
Debt is a stressful noose around your neck! Even the so-called good debt.
Bad Debt – or consumerism debt
All other debt that you have (besides investments detailed next) is bad debt! And most of it (if not all of it) is likely from consumerism and general keeping up with the Jones’ kind of spending. Credit cards, store cards, short-term loans and payday loans are all terrible forms of debt as they incur high interest rates and are designed to make other people very rich off your hard-earned money!
We live in a society which pressures us to have certain things, go certain places and hang with the “right crowd”. It’s all quite silly if you stand back and look at the situation, but when you’re in it it’s hard to reflect.
You can use the workbook to list and track all your debt and you may be surprised at how much you have. The key point to reflect on now is whether you really need everything that you have stuffed in cupboards or in the garage. Have you wasted money on unnecessary things and worse off, did you incur debt for things you don’t need?
Investment Debt (buy-to-let property)
It is possible to use debt in a way to make money and generally this is done through property investments in a buy-to-let property. This isn’t the only option, but it’s the most relevant example that I can think of. I’m not going to write much about this other than to say that this type of debt could be considered good, but it can also be a little risky if you do not know what you’re doing. While on the topic have a lookk at the 6 myths related to buying to let.
If you plan on purchasing an investment property I would really recommend that you buy 2 – 3 books and attend at least one course or seminar on the subject. If you’re willing to spend R1 million or more on an investment, then surely a few hundred rand upfront in the form of self-development & education is worth it! If you consider how much money you’ll pay across to attorneys during the registration process then it should be easy to justify a few hundred rand to improve your knowledge and help you make better decisions! And you may even save money by applying what you learn.
Investing in yourself is one of the best forms of investment!
Don’t become complacent with debt and think that it’s okay to have good debt. You may be covered with life insurance and you may have a plan to pay your home loan off early, but when things go wrong in life (which they do) then having debt will only exacerbate the situation!
Debt is bad and prevents you from experiencing financial freedom!