Good Debt, Bad Debt

Interest rates are at record lows and asset prices are rising. It’s a combination that could see the smart use of debt give investors a leg-up to increase wealth.

- Nicola Field

Aussies are no strangers to debt. Our household debt-to-income ratio is the fourth highest globally. Three out of four households have some form of debt, and close to one in three of us owes three times our annual income.

Is this a problem? Yes, and no. Used wisely, debt can be a tool to build wealth. The trick lies in recognising how debt can work in your favour while also knowing the potential for it to leave you financially skewered.

Despite today’s wafer-thin interest rates, debt doesn’t have a great reputation. Many of us still see it as something to avoid.

A survey from the Consumer Action Law Centre found being debt free currently ranks as the top symbol of “success”, above personal health, raising a happy family or having time to enjoy life.

Becoming debt free at some point is a worthwhile goal. But not all debt is “bad”. And as today’s ultra-low interest rates won’t be around forever, maybe now is the time to rethink the way we use debt.

Put lazy money to work

Over the past three decades the Reserve Bank of Australia’s official cash rate has plunged from almost 18% to today’s 0.1%. That’s great news for borrowers but not so good for savers.

Reserve Bank data shows the average interest being earned on savings accounts is a miserly 0.05%. Locking away cash in a 12-month term deposit won’t offer much benefit, pushing up the rate to an average of just 0.3%. The catch is that inflation is sitting at 1.1%. So, when the deposit matures in a year, the purchasing power of the money will have gone backwards by 0.8%. Hardly a recipe for growing wealth.