Is Debt Always Bad?

December 12, 2012

in Borrowing money

By AK (guest contributor)

Debt can come across as a necessary evil. Sometimes, you just need that extra help in order to buy something. But there is also the idea of good debt—debt that gives us more funds that can be used to generate higher returns than the interest paid on the borrowed funds.

Can debt be good?

What is the catch here? Debt is only “good” if we can use the funds to generate higher returns.

The late Dennis Ng said that the rich always take on debt, while the average man tries to be debt-free. This is not always true. I know of rich towkays who have so much money in their bank accounts that they would pay for a luxury car in cash instead of taking a car loan!

No matter how low the borrowing interest rate is, it is still about 10 times more than what a savings account pays in interest. I also know of average people who are leveraged by capitalizing on good debt.

So who is right and who is wrong?

Recently, UOB offered a 50-year home loan. Khaw Boon Wan has called this a gimmick, advising people not to fall for it. Now, does it make sense? For someone who is financially savvy and able to make his money work much harder, perhaps.

There will always be people who are more comfortable with debt, like the Americans. There are also those who are not as comfortable with debt. I have heard of mainland Chinese buying condominium units with cold, hard cash.

Again, who is right and who is wrong?

For those who are proponents of good debt, the pertinent question to ask is whether our money can always make higher returns than the interest paid on the loans. For now, it looks that way. But, what happens the day the party ends? Will they be drunk on debt?

Does it make sense to be debt free when interest rates are low?

For people who are more conservative, the pertinent question to ask is whether they could be short changing themselves by being debt free in this environment of very low interest rates. Of course, if the most sophisticated wealth-building tool they know is fixed deposits, staying debt free is the way to go.

Like a friend told me, I have a choice. His intended message was that I have a choice whether or not to embrace good debt. Personally, I understand the concept but I am more comfortable being debt free.

I replied: “People who do not have a choice should not be investing in property.” My insinuation was that people who do not have a choice but to borrow to invest in properties just because of the very low interest rate environment and the perceived future returns should think twice.

 

By AK, an experienced investor who blogs at A Singaporean Stock Market Investor.

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