For many Australian adults, debt is a part of our everyday lives. Regardless of whether you would like to enhance your skills by earning a degree, purchase a house for your family, or purchase a vehicle so your family has transport, taking out a loan is very common simply because we don’t have enough money to pay for these costs upfront. It seems that most people gets a loan at one point or another, so what’s the problem?
The problem is that lots of people don’t have knowledge of the difference between good debt and bad debt, and as a result, they take on too much bad debt which can lead to considerable financial problems in the coming years. Not all loans are created equal, and normally you’ll find a colossal difference between your credit card interest rates and your home loan interest rates. As time go on, your credit report will have a considerable effect on your borrowing capacity, so paying your bills on time and not defaulting on any loans is integral, in addition to keeping a healthy balance between good debt and bad debt.
Each time you make an application for credit, your lending institution will examine your credit report to analyse your financial history and then figure out whether they’ll authorise your loan. Too much bad debt on your credit report will be viewed negatively by lenders, as it shows poor financial decisions and behaviours. To make sure that you maintain healthy financial practices, it’s crucial that you appreciate the difference between good debt and bad debt.
What’s the difference?
The difference between good debt and bad debt is pretty straightforward. Good debt is normally an investment that will increase in value with time and will help you in creating wealth or providing long-term income. On the contrary, bad debt typically decreases in value quickly and does not add any value to your wealth or produce a long-term return. To give you some understanding, the following provides some examples of each of these types of debts.
The price of property has historically increased in time, so obtaining a home loan is considered a good debt because the value of your land will increase in time. On top of that, mortgages largely have low interest rates and a long term, normally 20 to 30 years, which reveals that the value of your land can double or triple during the life of your loan.
Obtaining a loan to invest in the stock exchange is also deemed to be good debt since the returns on the stock exchange are traditionally favourable. Financial institutions normally view stock market loans as good debt because you are aiming to improve your wealth with time through a sound investment. Be careful though, it’s not wise to invest in the stock market unless you have an ample amount of knowledge.
Another kind of good debt is investing in your education, whether it be university or a trade, considering that it enhances your skills and your potential 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 appealing option.
Credit cards are typically the worst type of debt an individual can have. Credit card debts displays to creditors that you have poor financial habits because the interest rates are exceedingly high and you have nothing in value to show for your investment. Folks with credit card debts typically have complications in securing future credit from lenders.
Cars and consumer goods
Another kind of bad debt is loans for cars and other consumer goods. When you take out a loan to purchase a car, it instantly decreases in value when you drive it out of the car dealership. The same applies to consumer goods like flat screen TVs, because you are basically paying interest for something that depreciates in value very rapidly.
Borrowing to repay debt
If you end up in a situation where you have to get a loan to repay existing debt, it’s best to seek financial guidance as soon as possible. This type of borrowing will only create further money problems, and the sooner you act, the more opportunities will be available to you to resolve the issue. If you find yourself dealing with a mountain of debt, get in touch with the professionals at Bankruptcy Experts Fremantle on 1300 795 575, or alternatively visit our website for more information: www.bankruptcyexpertsfremantle.com.au