This detailed article outlines the positive and negative effects of debt in the areas of personal consumption and investment.
The opinion of many people towards debt can be best summed up in the often quoted line from Shakespeare, ‘neither a borrower nor a lender be.’ Yet others will embrace debt as one of the most important tools in their investment arsenal. Of course, successful debt management comes down to whether you control your debt or you let it control you.
Some see debt as their friend, allowing them to purchase everything from household goods to investments that they would otherwise not have been able to enjoy with their own money. These people seek out the lender that will give them the most credit, on the best terms and become the winner by leveraging.
At the other end of the scale, debt can be seen as a necessary evil we just can’t get rid of quickly enough. Some of us loathe having to borrow money even if it’s for something important like our first home. The date that the mortgage is finally cleared can be a day of great celebration.
However you feel about borrowing, a fresh look at your debt strategy and how it fits within your overall financial plan can be a very worthwhile exercise.
The dark side of debt
Most of us know of someone who constantly struggles with controlling their credit card debt, or even worse, a friend or family member who has lost everything through bankruptcy due to an overload of debt. Having too much of the wrong type of debt can range from sleepless nights to losing a cherished home. But it doesn’t have to be that way for everyone.
On a more positive note
Taking into account your feelings about debt, it is worth thinking carefully about what it can add to your lifestyle or future financial goals. Of course, most of us borrow to purchase a home that we’d otherwise have to save for decades to buy outright. Many credit card purchases are made for the same reason, albeit over a shorter timeframe.
From an investment perspective, debt can also mean making an investment you would not otherwise be able to afford immediately. Again, property is the obvious example and the decision is often justified by the expected long-term wealth creation benefits and tax breaks that can help along the way.
However, when it comes to many other investments, going into debt is often about the benefits of leveraging. For example, by borrowing to invest you can buy a larger share portfolio which gives you more diversification, thereby spreading the risk. Other options include instalment warrants and internally geared managed funds that can provide different types of returns and risks. Here you need to be well aware of your personal risk tolerance.
When managed well, debt can be an integral part of a successful investment strategy. Always seek professional guidance to determine the best way to control and use debt to your advantage.