Bad debt vs. good debt & how it separates two Financial philosophies
I often hear my family and others emphasizing the importance of staying out of debt. I've also come across a few people suggesting the opposite – that going into debt is a good thing. While the immediate assumption might be that they're talking about obtaining student loans or investing in education, they seem to be referring to something broader – a concept or an approach.
In this, I will explore what this could mean for people considering going into debt for this reason, and how it separates two big different financial philosophies regarding how one should go about generating income & how they should not. I'll also cover the advantages and disadvantages of this approach, along with the reasons why many affluent individuals consider it crucial for building wealth and achieving financial freedom.
What is bad debt?
Bad debt refers to a type of debt that does not generate any income but instead depletes funds. Essentially, if the debt does not contribute to covering monthly payments or more, it falls into the category of bad debt. It's important to consider that bad debt is not universally defined and varies based on an individual's circumstances. For instance, while a car loan might be financially beneficial for one person, it may be financially burdensome for another.
One defining characteristic of bad debt is the significant stress it incurs. While all debts can induce stress, bad debt specifically refers to the stress of trying to make the payment. It is widely recognized as a major concern, particularly for the younger generation, due to its risky nature. Bad debt often forces individuals to live paycheck to paycheck. It typically commences with a modest loan from a financial institution or a friend and gradually extends to encompass car loans, loans for household items, and housing expenses. And this is without even factoring in everyday expenses such as food.
Bad debt example: Acquiring something that you want in the form of debt is as simple as making $1,000 net monthly & getting a car loan that is $400 monthly & your income going down by $400 + till you pay it off.
As highlighted, this accumulation of various loans can present a significant challenge, particularly for individuals with fixed incomes. It becomes even more demanding for those endeavoring to increase their income. The most straightforward means of expanding income involves taking on additional work hours, which can pose risks such as potential strain on mental health due to the lack of time for self-care or personal relationships. It’s simply a liability. The topic of debt is even addressed in the Bible by Solomon:
“(KJV), Solomon says: The rich rule over the poor, and the borrower is slave to the lender”
Just off this description alone you can see why parents & people would tell you to stay as far away from debt as possible. Then what’s all the fuss about, with all of these downsides how could this be any good?
What is Good debt?
Good debt is a type of debt that adds and or generates the monthly payment amount, resulting in a monthly cash flow increase rather than decrease overall adding to your yearly income.
Good debt refers to the type of debt that contributes to your financial well-being rather than draining your resources. It's important to note that good debt, similar to bad debt, is not a one-size-fits-all concept. Whether a debt is good or bad depends on whether it is used to finance something that can potentially generate income or has a direct impact on your earning capacity.
For example. Imagine you are a freelancer earning $1,000 solely from your work on your phone. You realize that your income potential is limited by the capabilities of your phone and that investing in a more advanced tool, such as a laptop, could significantly enhance your productivity. In this scenario, obtaining a loan to purchase the laptop would be considered an investment in good debt.
Despite incurring a monthly payment of $87 for the laptop, the enhanced productivity and improved work quality made possible by the new equipment enable you to increase your monthly income to $1,350. This represents a $350 increase in income. By subtracting the $87 monthly payment from the $350 increase in income, you are left with a net monthly income of $1,263 after acquiring the new debt.
Fun note: Accumulating multiple instances of good debt can have a substantial positive impact on your income as it gives you two ways alone to increase monthly income. managing such debts properly, Each new debt should ideally result in an increase in monthly income (from the start) that outweighs the associated monthly payment, leading to a net gain in income. The thing is just using the equipment to do other income-generating activities you couldn’t do before you had the debt or by paying off the debts Kind of like a bad debt but this time instead of recovering the monthly income you had lost, rather you’d be increasing monthly income from that loan & the thing you got.
Not everything is paradise for those who do this. This is where stuff begins to get highly complicated (only for good debt) & you start to see why some do & others don’t as the list of responsibilities, & knowledge requirements are now much higher compared to bad debt & you will see that in the amount & different financial terms I will have to use alone.
Where things get complicated
For those wanting to use this good debt system, it will be apparent that more technical language will be used. So just try to follow along.
When you get into this realm of life a lot of things are going to have to start to change as if it doesn’t you will just have a lot of bad debt. You will have to start thinking about:
Can this make me funds?
Does this directly impact my income or would I have to do something specifically to make this profitable?
How much could I make from this?
What should the monthly payments be?
Is this a liability?
Is this an asset?
Do I even have the time to make this profitable?
And so on
You also need an intermediate level of financial management, you would need to: Find every monthly expense you have and make sure you put it somewhere so you know the schedule of the payment, calculate & budget for your monthly expenses, calculate room for any unknown expenses that might pop up when buying things think about the long term benefit & if it’s within the budget, and I can keep on going. Ya just off looking at this your brain usage goes from 31% to over 9,000%. This doesn’t even touch on the stress of not knowing the future, this is a big one.
Attempting to acquire a new good debt, is something that separates business owners & investors (because that is what you would be) from people who don’t do risk. The risk is as high as you can see. The thing you buy can fail to make you any money, it can break without you having insurance, someone can steal it, and just going to the hospital for too long can make your new good debt a bad one. You just don’t know all the things that can make what you think & intend to make you money, instead make you nothing. This is one of the reasons for cash flow being your friend. Cashflow is the net (not gross) amount you make. Your net is your profit, in simple terms the money you can spend on anything you want. You can account for cash flow monthly or yearly but monthly & every two weeks are more precise. In finding all of these things you will find your gross monthly income which is the money you make before expenses, & once you compile all these things together you will have made a P&L (profit and loss) sheet, which gives you a good & long breakdown of your gross monthly income & yearly & your profit monthly & yearly. It subtracts your monthly expenses from your gross income to calculate your net income.
The reason for this interestingly complex understanding of your finances is needed due to you no longer being in the realm of say just anyone but rather an investor & business owner, you can even see where your brain activity goes up in this.
And as you should know in business & investing the risk is most of the time proportional to the gain. So the more you risk the more you can make. A term I use when I’m about to do something risky is the famous: scared money doesn’t make money, and I go and take the risk.
Formula: Gross income - Expenses = net income (this can calculate monthly & year net income)
When it comes to two bad debts it is simple, you just don’t have to worry about any of this except for your monthly expenses & a budget you can live without (please don’t live without a budget). All the parts of building income is no longer a concern making life maybe better for you. but you will not have as many finances to work with as you would want due to money not growing at all.
Take a look at how much I had to write about Good debt & bad debt. Your life will reflect this complexity & lengthiness.
Why the rich say this is how you build income
This is due to the convenience, & how fast you can rack up income very fast. Just think about waiting around 1 year vs only waiting
say 1 month & you are not suffering but rather benefiting from it. You could very quickly find yourself a large sum fo money yearly without even having that amount of money. You would be able to take your money right now & utilize it as if you have 3x that amount. Just think about it: You make $2,000 net monthly & you want to grow your money so you look at a cash-flowing asset for $10,000 but you don’t have $10,000. So you instead down pay $2,000 & take the rest in debt. now you have a cash-flowing asset it would have taken you 5 months to get. It would be making you $500 - the $250 monthly pay, & you have $250 profit from the asset making your monthly net income $2,250. See if you did this every month you would be making at the end of the year $5,250 monthly, but with $96,000 in debt. If you did this without debt you would be making $3,000 monthly & $0 in debt. going on next year at the end of next year you would be making $11,250 monthly with $192,000 in debt. If you did this without debt you would be making $5,000 monthly & $0 in debt.
How does this separate two financial philosophies
The two financial philosophies I’m talking about are the high-risk & low-risk way of thinking. honestly, as much of a principle of life taking risks makes you gain more, so it shouldn’t come as a surprise it’s the same thing here. Simply put you will make more money if you take more risks (educated & calculated risks). Most people are going to hear from their parents & others due to this being the wider population’s way of thought to not take risks like this. While the people who don’t want to take risks can have a great life with little stress it would result in smaller amounts to deal with & smaller gains, but the risky people would have made more money with a higher chance of losing it all or at least the income source. Trust me if you were to get these two people in the same room it would be an endless conversation, these two sides will not compromise on anything. It’s because neither is wrong but rather they just have two different wants & ways to get there.
For my followers of Christ
Proverbs 22:7 is a topic. It doesn’t outline good debt & bad debt is what makes you a slave so there are some questions. But what I said to myself is to put a limit on the amount of debt you incur on yourself if you can. I said to myself that small things like devices, home appliances, and food can be a debt, but when it comes to bigger things like cars, and houses, unless you just got it like that make sure you invest or set aside the amount of the debt in something that can pay the monthly expenses of the said debt so you could take advantage of the debt system without landlocking yourself & making the only way out of that debt is to pay it monthly. Or if you find something I haven’t just stay out of debt. Additionally, Moses in Deuteronomy 15:6 says: For the Lord thy God blesseth thee, as he promised thee: and thou shalt lend unto many nations, but thou shalt not borrow; thou shalt reign over many nations, but they shall not reign over thee.” although short he did say but “thou shalt not borrow” speaking to the Israelites. Which gives you an answer but it’s nearly unavoidable. But Romans 13:7-8 says: 7 Render therefore to all their dues: tribute to whom tribute is due; custom to whom custom; fear to whom fear; honor to whom honor. 8 Owe no man anything, but to love one another: for he that loveth another hath fulfilled the law.” So if you want to play it safe, In Jesus's name, just don’t go into debt. That being said if you do, it is rightful you pay what you must, this is not only related to money but rather anything due & Also to make sure you can pay your debt in full whenever you need to.
