Debt Management – Best Practices
Financial issues start with debt related issues, we are suffering as a country, as a business and individuals due to debt issues. A thoughtful debt can be the biggest asset in the long run and a mismanaged debt can be a disaster, which is the primary reason for the importance of debt management.
We are not against debt and it’s always important to know the difference between the good and bad debt, some borrowings can make you a winner and some borrowings can push you into disaster, let’s try to identify what is good and what is bad.
What is good debt?
Let’s forget the rich dad, Robert Kiyosaki’s definition of good debt for a moment, in simple terms, a good debt is a sensible borrowing, which will create an asset in long run or which will direct an income within short period, also, a good debt is a comfortable commitment to your monthly financial. It will not have a negative impact on your financial position
A good debt will have
- a clear and specific reason for taking it
- A realistic plan for paying it back without creating a negative impact on your financial
- Best possible borrowing rates and charges
- Appropriate terms and condition
- Create an asset or creates a cash inflow or adds value
Some Examples of Good Debt
- Buying an affordable car – car becomes an asset in long run, also it will be cost saving since the time and money spent on public and private transport can be saved.
- Buying a Property – it will be a great asset provided the location of the property is appreciating in the real estate market.
- Student loan – this considered the investment on self-development and it will pay off in long run.
- Business Loan – brings money to your pocket more than what you pay from your pocket, provided your business plan is sensible
What is bad debt?
Anything which will not become an asset or which will not derive income considered as bad debt. Mostly bad debts are obtained for pleasure and prestige reasons and those are just expenses, a bad debt creates stress in your monthly financials and pushes you into more debt.
A Bad Debt will
- Not have a specific reason or will have a pleasure reason.
- Not have a plan for repayment or repayment will affect your monthly financial
- Borrowing rates and charges not considered
- The borrower has no idea of the terms and conditions
- Drains your wealth and creates a disaster
Some examples of bad debt
- A Brand new luxury car – Brand new cars tend to depreciate faster, it loses value over time, you will end up paying more than the value of your car, thus it cannot become an asset in long run, also higher commitment could eat your monthly income and you might end up in financial stress.
- A luxury holiday using your credit card – all of us want to have vacations, but turning your vacation into a debt is not advisable, plan your vacation with your savings and monthly income, a vacation is an expense and you should not borrow for expenses
- Buying phones and devices using debt – a phone bought a year or two ago cannot be sold for half of its original price, but the loan is not finished yet. Think twice before getting into debt to buy a fast depreciating item
- Borrowing to settle other debt – the most common occurrence in our country, debt for debt. Not advisable and it will put you in a very bad financial crisis, you have to really look into debt management if you are about to borrow to pay your other borrowings.
What if you are already in a bad debt?
Very simple, Just give us a call.
This article originally published in advisor.lk and republished with permission