Being in debt is not a good place to be. Psychologists maintain that debts cause anxiety, lowers performance and induces low self esteem. You may look rich, talk rich, walk rich but deep down inside, you know you are anything but rich. Being in debt simply means spending tomorrow’s money today. Debt mortgages your financial future, reduces your current cash flow and puts unnecessary pressure on your financials, often rendering you incapable of making decisions that will put you back in control of your finances. The debtor is a slave to the lender, so goes ancient words of wisdom. Financial freedom also means freedom from debt. Getting out of debt is one of the first key steps in the journey to financial freedom.
In the world of personal finance, there are two types of debts – good debts and bad debts. Good debts make you richer while bad debts make you poorer. Most people are used to bad debts than good debts.
Good debts are debts incurred in acquisition of assets, investment that generate a net positive cash flow, that is money in your pocket. What this means is that the asset ultimately pays for itself and sends a tidy profit in the direction of your pocket. If an investment leaves you out of pocket, and you need to keep spending to keep it, it is a liability. An earlier article – Assets and Liabilities Definition for Everyday Folks deals with the difference between assets and liability from a financial freedom or rich perspective.
A key point to repeat here is that more often than not, it is not the item or investment itself that is an asset or liability. It is the investor that is the asset or liability. Tom can take an investment and generate net positive cash flow while Dick takes the same investment and turns it into a money loser. Lets say investment property. It is the management team that is the asset or liability. One team can run it down while another team take same property to the next level.
In Nigeria, due to the absence of securities regulations categorizing investors, every Tom, Dick and Harry had access to private placements, initial public offers and margin loans just before the global financial meltdown. This opened the floodgates for inexperienced investors to take the Nigerian Stock market by storm. Margin loans were extended to all comers to buy stocks they knew nothing about and take risks way beyond the limits of their risk tolerance. Financial illiterates took millions of Naira position in stocks hoping to cash in on the never ending bull run. The rest, as they say is history.
Debt is a razor sharp two-edged sword. Because you think something is an asset does not make it one. If you cannot manage it and turn it into an asset, stay well clear until you do (see Invest in Your Personal Financial Acumen). Investing is not an all comers affair. Like surgery, you have to go to medical school, practice on cadavers before you take the plunge to do the real thing.
So good debt is when an experienced investor (stock, real estate, business, commodities etc) uses other people’s money to make more money.
Bad debt is everything else. Consumer debts, buying liabilities thinking they are assets etc. You have a bad debt when you give money to an inexperienced investor to invest for you.
Consumer debt is the biggest culprit. The item depreciates the moment money leaves your hands, right at the check out. It becomes previously owned or second hand instantly. The saddest part is that most of the stuff we spend good money on eventually end up not being used and are given away or end up in the thrash (cash to thrash).
You have to make a quality decision to be debt free in 2011. You have been carrying this weight for far too long. It is time you shake it off and take charge of your financial future for a change. In Part 2, we will look at ways of getting out of debt.
Wednesday, April 20, 2011
Become Debt Free in 2011
7:22 PM
Andy
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