For most Australian adults, debt is a part of our day-to-day lives. Whether or not you wish to further your skills by earning a degree, invest in a home for your family, or purchase a vehicle so your family has transportation, taking out a loan is very common simply because we don’t have enough money to pay for these expenditures upfront. It appears that everyone obtains a loan at one point or another, so what’s the problem?
The issue is that too many people don’t grasp the difference between good debt and bad debt, and as a result, they take on too much bad debt which can produce substantial financial problems in the coming years. Not all loans are created equal, and generally you’ll find a vast difference between your credit card interest rates and your mortgage interest rates. Over time, your credit report will have a serious effect on your borrowing capacity, so paying your bills on time and not defaulting on any loans is vital, alongside keeping a healthy balance between good debt and bad debt.
Each time you apply for credit, your lender will inspect your credit report to determine your financial history and then decide whether they’ll authorise your loan. Too much bad debt on your credit report will be viewed detrimentally by lenders, as it exhibits poor financial decisions and behaviours. To make sure that you maintain healthy financial habits, it’s important that you appreciate the difference between good debt and bad debt.
What’s the difference?
The difference between good debt and bad debt is fairly straightforward. Good debt is commonly an investment that will increase in value with time and will assist you in building wealth or providing long-term income. Meanwhile, bad debt generally decreases in value rapidly and does not add any value to your wealth or yield a long-term return. To give you some idea, the following offers some examples of each of these types of debts.
The price of land has traditionally increased in time, so acquiring a home loan is considered a good debt because the value of your property will increase over time. Also, home loans generally have low interest rates and a long term, normally 20 to 30 years, which indicates that the value of your property can double or triple during the life of your loan.
Obtaining a loan to invest in the stock market is also regarded as good debt since the returns on the stock exchange are historically favourable. Financial institutions typically view stock exchange loans as good debt because you are striving to enhance your wealth with time through a sound investment. Be careful though, it’s not wise to invest in the stock exchange unless you have a sufficient amount of knowledge.
Another kind of good debt is investing in your education, whether it be university or a trade, since it increases your skills and your capacity to earn a higher income down the road. In Australia, the interest on HECS loans are equal to inflation which clearly makes them a very enticing option.
Credit cards are traditionally the worst type of debt a person can have. Credit card debts illustrates to lending institutions that you have poor financial habits because the interest rates are extremely high and you have nothing in value to show for your investment. Individuals with credit card debts often have issues in receiving future credit from loan providers.
Vehicles and consumer goods
Another kind of bad debt is loans for vehicles and other consumer goods. When you get a loan to buy a vehicle, it immediately decreases in value when you drive it out of the dealership. The same applies to consumer goods such as flat screen TVs, because you are essentially paying interest for something that depreciates in value very quickly.
Borrowing to repay debt
If you end up in a situation where you have to obtain a loan to repay existing debt, it’s best to seek financial support as soon as possible. This kind of borrowing will only result in further money problems, and the sooner you act, the more opportunities will be available to you to resolve the issue. If you end up facing a mountain of debt, speak with the specialists at Bankruptcy Experts Sunshine Coast on 1300 795 575, or alternatively visit our website for more information: www.bankruptcyexpertssunshinecoast.com.au