What’s the difference between good debt and bad debt?

Do you wake up at night worrying about the money that you owe on your credit card or personal loan and wonder how you are going to repay it?

Australians have the world’s second-largest household debts and both good debt and bad debt combined make up household debt.

On an individual level, 37 per cent of Australians are struggling to pay off their own debts, with almost half of millennials reporting that debt is a problem for them personally.

This, without a doubt, has increased and will continue to increase as we go through times of crisis and unforeseen events.

Many people use borrowed monies or debt to provide immediate gratification. Instead of using their income or saving to buy the thing they want later, they will often use other people’s money in the form of credit card, personal loans, or car loans to buy the things they want now.

None of the things that you buy on your credit card, or with the loans that you take out, make you money.

Debt that does not make you money is known as bad debt.

Personal debt costs you money. For every dollar you borrow the person or the organisation that you borrow money from will charge you, in the form of interest, for  borrowing the money, as well as expecting the money, that you borrowed, paid back in full.

Your money is earning money for other people….and it’s not working for you. In fact, more often than not, your commitment to repaying bad debt is compromising your ability to create financial security for your future and other people and organisations are getting rich.

Using borrowed money to buy your home, own investment property, amongst other investments, and support your businesses or for further education is good debt.

While you still need to pay interest on the money you borrow and payback the capital, the purpose that you are using the money for, is to make money. It is putting you in a position to increase your capacity to earn money from your business, your investments and you career while at the same time the investment that you have purchased have the ability to increase in value over time. And in some instances, the interest that you pay on the borrowings can be offset against your taxable income.

In these circumstances this creates a win-win situation for everyone, for you and the person or organisation that you are borrowing money from.

The 3 things that you need to do to make debt work for you:

1. Know how your money works.

It is important that you know how your money flows and that you are in control of the money that comes in and out of your life. By knowing how your money works you will know how much you have available to repay your borrowing.

2. Know your Purpose.

If you are borrowing money you need to decide what the purpose is for the money you are borrowing. Is it for something that you cannot wait to buy (bad debt)? or is the money that you are borrowing to support you in creating your best life (good debt)?

3. Understand the impact of unforeseen events occurring.

There are many events that may occur that will have an impact on your money and hence your ability to manage your debt. Some events you can plan for, others you can’t but it is important that you consider what these events might be and put in place strategies that you can implement if you need to.

Borrowing money can be good for you financially or it can be bad. If you want to make money, become wealthy and be financially secure make sure you use debt wisely.