Most people will tell you that being in debt is bad thing. If possible, you should not be in any form of debt. But does that mean being debt-free is a good thing?
Dispelling the myth
The word debt never brings with it many positive vibes. It is always something that people want to avoid and often associated with loan sharks and such. Hence, it is very normal for Malaysians to stay away from ‘debts’ or ‘debt collectors’. But did you know that not all debts are bad? There is something called a ‘good debt’ which you might need to have good financial ratings?
Often used in accounting
The term bad debt is commonly used in accounting and the ledgers. Technically, a bad debt refers to any amount that cannot be collected and after a certain period of time (usually 7 years), they are termed as such. Hence, the amount would have to be written off. But in the individual financial management situation, these terms are used in a totally different manner.
What is a bad debt?
Generally, any amount that we owe which does not help to improve your financial situation can be considered as a bad debt. This includes your credit cards and personal loans. The reason why they are called bad is that they tie you down to years and the longer it goes, the more you end up paying. These are the type of debts that you might not want to get too deep into unless you do not have a choice.
What about good debts?
Now on to the good debts. The reality is that there are debts that are good. This usually refers to those that you take because you need to. In Malaysia, we have the PTPTN loan which is taken to help fund your education. Some banks actually offer education loans to help pay for tuition fees. These loans are given out to help the lower and middle-income Malaysians to complete their undergraduate degrees. You can also take certain loans to continue into postgraduate levels of study.
Meanwhile, another good debt is mortgages. What makes this debt a good one is because as you pay the installments, you are building some form of value. The equity in your property is what you are paying for. At some point, the interest might differ (increase) due to market factors but they are usually not very major. At the end of the day, having a mortgage (or property loan) means you are putting your money into some form of investment.
How can good debts help you financially?
Ultimately, you need to calculate the final outcome of being in such debt.
- If you take an education loan, would you get the money back after you graduate? If you are taking your Master’s or Ph.D. degree (and take a loan to complete it), will your salary increase be substantial after completion and how long will it take to recover your debts?
- If you take a housing loan, what is your potential returns after paying it off? Will it improve your financial status afterward?
What will the debt do to your financial ratings?
With all factors considered, you need to evaluate the need of being in such debt. After all, you must be able to pay the installments on time so that you have a good payback record which will then affect your credit ratings needed to apply for future loans (if needed).