The secret to wealth: Understanding the difference between Good Debt and Bad Debt

One of the biggest misconceptions about wealthy people and the reality of growing your own wealth, is that all debt is bad debt.

Debt is a pretty scary word, right? And it’s often painted in a pretty bad light due to the risk it carries and the potential for some pretty negative impacts if it isn’t managed properly.

So, it’s only natural to assume that wealthy people have, and do, avoid debt all together.

But the secret they don’t want you to know is that actually – debt isn’t always bad, and it can be an incredibly helpful tool to grow your wealth – especially when used within a property investment strategy.

So, what is debt, how do we differentiate between good and bad debt, and how can you control that good debt to reap all of the wealth is can potentially bring?

Let’s talk about it:

What actually is debt?

Debt is the money that you borrow from a lender – like when you take out a loan with a bank, with the agreement to repay it over time (with interest usually added on top). Going into debt means that people and businesses have access to money that they don’t currently have, giving them the opportunity to make purchases or investments that they otherwise wouldn’t be able to.

It sounds pretty good right? And it can be – so long as the debt is strategic and managed properly.

So, what is good debt?

Good debt is any debt that helps you to generate wealth or increase financial security over time. Essentially – debt that will have a positive financial outcome for you, even after you’ve paid it off. So, going into debt for things like property investments, business opportunities, educational loans or investing in assets are all examples of good debt.

But of course, we’re mostly interested in good debt from a property investment sense – where taking out a loan to purchase property means you can generate rental income or set your property up for long-term capital growth down the line. Going into debt to invest in property means you’re borrowing the BANK’S money to build YOUR wealth.

What is bad debt then?

Bad debt is debt that doesn’t generate any income or financial growth, and this usually comes from using the money to invest in something that depreciates in value over time. Bad debt often drains your finances and comes with high interest rates – things like credit card debt, personal loans, buy-now-pay-later services like Afterpay, or personal loans for a holiday, shopping spree or fancy car that’s bound to depreciate.

Bad debt can very easily spiral out of control, and leave you in a cycle that can place a lot of financial stress on you and your loved ones, and can leave you with a bad credit score – which makes wealth building really tricky in the future.

And this is why debt is often seen as ‘bad,’ – it’s scary to know that when it’s not managed properly you can spiral out of control with your finances.

Which is also why it’s important to understand how to manage it properly, and we’re here to help – guiding you towards the right investment opportunities for you and your goals.

So how do the wealthy investors ACTUALLY use this good debt to build wealth:

The thing is, when you decide that GOOD debt (like investing in property) is the right approach for you – it’s not actually about how much or how little debt you have. It’s all about how you manage it, and this is where understanding (or having a team of people who can help) the part that cash flow, investing in the right assets and risk management plays in controlling this debt becomes really important.

Here are some strategies we recommend (and ones that other wealthy investors are consistently using) to use debt as a successful investment tool:

Borrowing money to invest in properties you KNOW will appreciate in value: It’s all good and well to take out a loan for your investment property, but if you’re not choosing the right property, you’re not guaranteed to get that long-term capital growth. This is where it’s important to understand the market, invest in high-growth locations, keep an eye on supply and demand imbalance and buy below market value (just to name a few). It can also be helpful to work with experts who know the market inside and out, who can guide you on choosing the right property.
Using equity from your investments to build out your portfolio: The work isn’t done once you’ve borrowed the money and invested in a property. In fact – at this point the work is just beginning, especially if you’re looking to build long term wealth across a diverse portfolio. The wealthy property investors – and the ones who are the most successful, use the equity from their current investments to refinance, purchase new property or debt recycle by using the equity for another income-producing asset. It’s not just about the initial debt and what you use it for, but about managing that purchase to build its value even further.
Choosing the right loan structures to minimize your risk: Not all loans are created equal, so when entering into a loan, it’s important to make sure you’re considering all options to reduce financial risk, improve your cash flow and give you more control. Things like looking at fixed vs variable interest rates, considering interest-only vs principal & interest loans, and using offset accounts to reduce interest are all options at your disposal – and ones that can be really helpful to have a team guiding you in your decision making.

So, to wrap this up, our key takeaway is that debt isn’t the enemy – bad debt is. While it can seem scary and a little overwhelming to have any sort of debt at all, good debt that is managed effectively, with a strategic plan in place can actually be incredibly beneficial in helping you build long-term wealth.

And if you are currently stuck in a cycle of bad debt – that’s ok. The key is in understanding your current situation, and exploring your options to find the best approach to move forward.

If you’re interested in finding out more about how you can turn debt into wealth through property investment, feel free to contact us and have a chat. We’re the experts in crafting tailored solutions to fit your goals and current situation – and especially where debt is involved, having a team up your sleeve can be very helpful in making the whole process feel a little less scary.