The word “debt,” always has a negative ring to it. However, not all debt is bad. The truth is, debt can help you leverage your money and achieve your financial goals, such as building wealth.
Can you build wealth using debt? The short answer is YES. You definitely can. It all depends on what kind of debt you have, how smart you use the borrowed money, and how diligent you are at paying it off.
Now if you’re wondering how to use debt to build wealth, we’ve got you. But first, you need to know about the two kinds of debt: Good Debt and Bad Debt.
Good Debt vs. Bad Debt
Good debt is a kind of debt with low interest and is used to increase your value in the long run. Simply put, if the debt increases your net worth or has value in the future, it is considered good debt. Here are a few examples:
- – Real estate. Getting a loan to buy a home, using it for a few years, and then selling it for a profit is an excellent way to generate income using debt. You may also rent it out immediately after purchasing it, making it another income stream.
- – Business. If you have a solid business plan and perhaps a few personal backers, borrowing money to start a business can be an excellent financial decision. It is considered good debt as it can potentially increase your net worth as your business gains success over the long term.
- – Education. One good way to increase your earning potential is to be better educated. Investing in your education can be considered good debt as it ups your chances to land higher-paying jobs and be promoted within the company.
On the other hand, bad debt has atrociously high interest and depreciates in value relatively quickly. Therefore, it has the potential to lower your credit score and deplete your finances. Here are a couple of examples:
- – Credit card. Interest rates can go as high as 20%, making it difficult for many borrowers to get out of their credit card debt. However, owning a credit card can also help you increase your credit score, especially if you are just starting. It depends on how you use it and if you’re paying the bills in full each month.
- – Cars. An auto loan is considered bad debt since vehicles depreciate in value depending on several factors, such as mileage, warranty length, service history, and fuel economy.
To start getting a lot of money using loan money, you must ensure it’s good debt. That part is simple. Now let’s get to the important part: how to use debt to build wealth.
5 Ways to Build Wealth with Debt
1. Managing your bad debts
To build wealth, using debt or not, the first step is to get rid of or manage your bad debt. Once you get that squared away, you can start building your wealth. It’s a good thing to remember to always live within your means. And the simple math of income being greater than your living expenses should always be something you live by, which leads us to the next tip.
2. Reducing your living expenses
The greater the difference between your expenses versus your income, the more money you have to use as an investment. Cash flow management can help you track expenses, loan due dates, and payments more efficiently. And perhaps, the best advice for financing is to pay your debt on time and, if possible, always pay in full.
3. Borrowing money to start a business
You can take out a small business loan to help you improve your business. The more you invest in yourself and your business, the greater your chances of increasing your income flow. You can use your small business loan to expand your inventory or add a branch or service to the current ones you already have. Using loan money as financial leverage to increase your cash flow is a good idea. If you don’t have a business, you can always get a small personal loan and start a business or invest in educating yourself about a particular business or skill. The more you invest in yourself, the bigger your value will be.
4. Borrowing money to invest
A loan to invest in properties or stocks can be a powerful way to build wealth over time. Some people use this strategy to create something more out of the borrowed money, use some of the earnings to pay off the debt, and keep the cycle going. In the end, the debt is paid off, and you have more investments than when you started. Although, keep in mind that investing has risks involved. Make sure to factor in what type of investment you are eyeing and your risk tolerance. Your losses can exceed the amount you invested initially if you’re not careful. In the worst-case scenario, your lender may take ownership of your investments if you cannot repay your loan.
5. Consolidating your debts
But what if you already have bad debt, you ask? Would this affect your ability to build wealth using debt? It would, but perhaps not as much as you might think it will. For example, you have several credit card debts, and they are growing by the month. You struggle to pay off even the minimum, and building wealth is beginning to look like a pipe dream. You can try doing debt consolidation. What this does is lump all of your debt into one enormous debt with lower interest. This way, you don’t owe several banks different amounts of debt with various interest rates.
Borrowing money or going into debt is not always a wrong decision. On the contrary, good debts can help you increase your net worth and build wealth. Knowing how to use debt to build wealth is what makes the difference.
Take note that you should not borrow more money than you can comfortably pay back. And it is also worth noting that there are risks involved in incorporating debt into your investment strategy. So, it is essential to seek the advice of experts or your financial advisor before making any big decisions.
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