Having a lot of assets is much better than having a lot of debt.
But, is there such a thing as good debt?
Using debt to fund consumption is obviously a bad idea. It’s not smart to pay for things with money you don’t have. You have to pay that debt back with interest. Banks like Commonwealth Bank of Australia (ASX: CBA) are built on supplying people with loans for things.
Paying for a holiday with debt isn’t a good long-term choice. But there’s a good argument that not all debt is a personal finance evil. Every regular person needs a mortgage to buy a property. Most students need to take on debt to go to university to get a degree to unlock their ideal high-paying job.
A job may require a car to get to various locations but maybe a car loan is the only way to afford that vehicle.
In the above situations I think it’s unavoidable that people need to borrow to improve their long-term financial position, as long as the property, degree or car is a wise good-value choice.
Most people who borrowed money at the start of this decade (or earlier) to buy an investment property will probably have done very well. On a spreadsheet it’s easy to justify borrowing as much as possible to buy as many investment properties as possible and utilise leverage to the maximum extent.
Property values do not always go up as we’ve seen in the past two years. Sometimes the tenant doesn’t pay the rent, or perhaps there’s no tenant in the property. It’s not guaranteed that the property investor’s primary source of income (eg a job) will always be there to pay any property expenses shortfall. The negative gearing strategy could be a very risky one if certain circumstances play out. The same can be said about margin lending to invest in shares.
Debt can certainly be a useful tool for achieving goals. But I think it should be avoided where possible, (electronic) cash is the best payment method for small things. Taking on large amounts of debt for big items should be thought about very carefully.
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Motley Fool contributor Tristan Harrison has no position in any of the stocks mentioned. The Motley Fool Australia has no position in any of the stocks mentioned. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.
The Motley Fool's purpose is to help the world invest, better. Click here now for your free subscription to Take Stock, The Motley Fool's free investing newsletter. Packed with stock ideas and investing advice, it is essential reading for anyone looking to build and grow their wealth in the years ahead. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson. 2019