Troy Bygrave, business relationship and sales manager, JN Bank, says while many Jamaicans are raised to believe that they should avoid debt at all costs, this approach to financial management may not necessarily be the smartest.
He said borrowing can be very positive.
“Credit is there to help you to acquire assets so that you can build wealth. Very few people earn enough money to pay cash for life’s most important purchases, such as a home, car or a university education; therefore, loans are there to support.”
The goal is to borrow wisely, he pointed out, explaining that “borrowing should never be done simply for consumption,” he warned. “You should always consider how you will earn or benefit from funds you borrow,” he advised.
Recognising good credit
The most important consideration when buying on credit, or taking out a loan, is whether the debt incurred is good debt or bad debt.
To better understand the concept of a good loan, he said the old adage “it takes money to make money,” is quite applicable. “Good debt helps you to generate income and increases your net worth,” he advised.
The JN Bank manager gave examples of good debt, which included taking out a student loan to pay for a university education, buying a home, consolidating debt or starting a business.
“A university education increases your value as an employee, and raises your potential future income. In general, the more education an individual has, the greater that person’s earning potential,” he reasoned.
He further noted that education has a positive correlation with the ability to find employment, hence, better educated workers are more likely to be employed in good-paying jobs, and tend to have an easier time finding opportunities, as the needs arise. “An investment in a university degree is likely to pay for itself within a few years of the newly educated worker entering the workforce. Over the course of a lifetime, educated workers are likely to rack up a return on investment measuring in the hundreds of thousands of dollars,” he said.
Mr Bygrave further advised that taking out a mortgage to buy a house is considered a good debt, as well. “A house is generally an appreciating asset; and, therefore, in most cases your home is likely to increase in market value over time, enough to cancel out the interest you’ve paid during that same period,” he explained.
He noted that residential real estate can also be used to generate income, by taking in a boarder, renting out a section, or the entire residence. He added that an auto loan can also be a good debt, particularly if the vehicle is essential to doing business.
“But, unlike homes, cars and trucks lose value over time; therefore, it’s in the buyer’s best interest to pay as much as possible up front, so as not to spend too much on high-interest monthly payments,” he advised.
Taking out a loan to finance a viable small business venture is also considered good debt, Mr Bygrave advised.
“Making money is the whole point of starting a business. If that business does well, it will end up being worth far more than the loan you originally took out,” he said.
Mr ByGrave added that borrowing also allows one to maintain their pool of savings and investments, noting that it is sometimes best to borrow than to dip into one’s savings.
“Instead of using up that money, borrow against it; and let that money continue to earn more money. Therefore, you shouldn’t have to wipe out your savings, or earnings, to be able to acquire an asset, unless you were saving the funds for the specific purpose of making that purchase” he advised.
Avoiding debt traps
Debt becomes a real problem, Mr ByGrave advised, when there is no sound purpose for borrowing and no specific and actionable plan in place to repay the debt or to manage it. He noted, for example, that many people fall into bad debt when they borrow to purchase items that quickly lose their value and do not generate long-term income.
“The general rule to avoid bad debt is if you can’t afford it and you don’t need it, don’t buy it,” he said.
“If you buy a fancy, $20,000 pair of shoes on your credit card, but can’t pay the balance on your card, those shoes will eventually cost you more than $20,000, and because of the rapid pace of fashion, the value of those shoes, should you choose to sell them to recoup the cost, could have likely depreciated,” he explained.
The JN Bank sales manager also noted that credit cards often get a bad rap, but said they can be a good tool to have. “A credit card is a good loan, if used correctly, as it is a free loan. If you pay your bill on time and in full, you avoid paying any interest at all,” he advised.
In addition, one’s ability to properly manage a credit card is a good demonstration of how well they handle credit, should they need a much larger loan, such as a mortgage, or loan for a business.
“Credit card debt only becomes bad when you don’t follow the rules and spend frivolously. One method you can apply when tempted to use a credit card is to ask yourself this question: ‘If you had the cash in hand to make the same purchase, would you spend your cash?’ If your answer is no, then perhaps you shouldn’t make the purchase,” he said.
Another debt trap persons should avoid is borrowing to supplement income. It leads to a cycle of debt, Mr ByGrave underscored.
“Borrowing to supplement your income is not a sustainable measure; and, it will lead to an uncontrollable habit that, will result in very negative outcomes for you, in the long term,” he warned.
Instead, try to think of other ways to supplement your income, such as earning from any skills or knowledge you may have, such cooking, plumbing, teaching, speech writing, etc., getting another job, or even tapping into any unused assets you may have, such as fruit trees and plants at home.