Good debt versus bad debt

Sunday, November 18, 2018

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Jamaicans are generally raised to believe that they should avoid debt at all costs, but this approach may not necessarily be the smartest.

According to Troy Bygrave, business relationship and sales manager at JN Bank, it is good to borrow. The key is borrowing wisely, paying keen attention to whether the debt incurred is good or bad.

“Credit is there to help you to acquire assets so that you can build wealth. Very few people earn enough money to pay cash for life's most important purchases, such as a home, car or a university education; therefore, loans are often unavoidable,” he said.

To explain the concept of a good loan, he used the old adage “it takes money to make money”.

“Good debt helps you to generate income and increases your net worth,” he said. Bad debt, on the other hand, is incurred to purchase items that quickly lose their value and do not generate long-term income.

“The general rule to avoid bad debt is if you can't afford it and you don't need it, don't buy it,” he advised.

“If you buy a fancy, $20,000 pair of shoes on your credit card, but can't pay the balance on your card for years, those shoes will eventually cost you over $20,000, and by then they'll be out of style,” he said.

Some examples of good debt to which Bygrave pointed are student loans to pay for a university education, buying a home, or starting a business.

“A university education increases your value as an employee, and raises your potential future income. In general, the more education an individual has, the greater that person's earning potential,” he reasoned.

He further noted that education has a positive correlation with one's ability to find employment; hence, better-educated workers are more likely to be employed in good-paying jobs, and tend to have an easier time finding opportunities, as the need arises.

“An investment in a university degree is likely to pay for itself within a few years of the newly educated worker entering the workforce. Over the course of a lifetime, educated workers are likely to rack up a return on investment measuring in the hundreds of thousands of dollars,” he said.

Taking out a loan to finance a viable small business venture is also considered good debt, Bygrave advised.

“Making money is the whole point to starting a small business. If that business does well, it will end up being worth far more than the loan you originally took out,” he said.

On the subject of real estate, Bygrave explained:“A house is generally an appreciating asset; and, therefore, in most cases your home is likely to increase in market value over time, enough to cancel out the interest you've paid during that same period.”

In addition to its appreciating value, Bygrave advised that residential real estate can also be used to generate income, by taking in a boarder, renting out a section, or the entire residence.

An auto loan can also be good debt, but usually only if the vehicle is essential to doing business.

“But, unlike homes, cars and trucks lose value over time; therefore, it's in the buyer's best interest to pay as much as possible up front, so as not to spend too much on high-interest monthly payments,” he advised.

The JN sales manager noted that credit cards often get a bad name, but said they can be good tools to have.

“A credit card is a good loan, as it is a free loan. If you pay your bill on time and in full, you avoid paying any interest at all,” he said.

Bygrave was addressing a recent professional development seminar for graduates and final-year students at the University of Technology's School of Allied Health and Wellness. He spoke on the topic: “Realising your vision for financial security”.

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