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Is all debt bad debt?


Is all debt bad debt?

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As a society, we are driven by debt. The world’s economies are driven by people buying goods and services at an increasing rate and most of the time, these purchases are funded by debt. We buy homes, cars, clothes, education, smartphones, and even healthcare using debt. Our thirst for debt seems unquenchable.

Some have equated debt to modern day slavery and the wise King Solomon said that he who is indebted to another is enslaved to that person. The question then arises, is debt the worst thing that ever happened to mankind? It’s easy to argue that it is but allow me to show you why such a view is not completely correct.

In my mind, you can use debt for one of two purposes:

  1. To maintain a comfortable lifestyle
  2. To develop oneself by using debt to accumulate wealth

In the first instance, you can use debt to buy items like clothes, flashy vehicles, furniture and sometimes even holidays. These are nice to haves but are not necessary for survival. There is nothing wrong with desiring a few comforts in life, especially if one works hard. The only question is, are you willing to sell your future income and time (effectively enslaving yourself ) for these comforts? Debt has the potential to ruin lives. According to recent statistics, there are 24 million credit-active South Africans. Two out of every five of these credit active citizens have impaired accounts. This means that they have failed to keep up with their debt obligations. That’s approximately 10 million South Africans undergoing tremendous stress as a result of the debt burden. These factors make me believe that debt is likely to cause more harm than good.

On the flip side, you can use debt to get educated, buy a home to live in and other items that have the potential to create wealth in the future. An example of this is the case of the Deputy Chief Justice of South Africa’s highest court, Justice Zondo. As a young man, Justice Zondo borrowed from a certain Mr Moosa to provide for his family while he pursued his law studies. His life may have turned out very different if he had not taken on that debt. You can watch Justice Zondo’s testimony in the video below.

Taking this concept further: some people use debt to their advantage even when they don’t need it. A lot of property moguls who could afford to buy large properties in cash, often choose to buy on debt. To understand why; consider an individual who has R1 million in cash. That person could buy one property with that money and then earn a rental income of around R10,000 a month from it. Seasoned property gurus would instead choose to buy say two properties on debt, each with an R500,000 deposit. Such properties could each bring in the same R10,000 in rental income and yet have about R5,000 each in debt repayments. Such an investor would have R5,000 left over from each property every month giving a total income of R10,000. At the end of the day, the investor would have 2 properties and the same amount of income. This is in contrast to the investor who buys the property in cash, who would only have 1 property.

The above concept is much like what corporate companies do a lot of the time. Large companies with huge cash piles still use debt to their advantage. A clear example of this is Apple Inc. Apple has over US$260bn in cash but also has debt of about US$100bn. There are advantages to Apple having such large debts instead of paying it off completely.

One final example is buying a home for R1m in cash instead of using a bond. You could be better of investing a huge chunk of that money in shares. The money invested in shares could earn 15% per year over a twenty-year term. You can then use the remaining cash to take out a bond for a home at 9% interest. You could get such a low-interest rate by paying a huge deposit – think half a million rands. The income you receive on your shares could pay off the bond and still leave you with more money left over to use in other areas. At the end of twenty years, you could find yourself with a home; a large share portfolio and even extra wealth that you wouldn’t have had otherwise!

In conclusion, debt is a dangerous animal but not all debt is bad debt. Knowing how to discern between good and bad debt can help you to advance yourself and improve not only your life but the lives of those around you as well.


Older comments

    Hey Alina, the interest rate will mainly depend on the relationship you have with your lender among other things. Most home loans are quoted in relation to the prime interest rate. Some banks will offer rates that are less than the prime interest rate to their ‘Private clients’ (The prime interest rate is currently at 10.5%).

    I love the deputy chief justice’s story, it’s beautiful.. I also love the moral of the story and that he didn’t have to pay back the money at the end :). Now I would like to know, is it really possible to get a 9% interest rate on a home loan (especially since the repo rate is 7% and any idea on what the requirements to get it would be? Nice article guys, I look forward to engaging and learning more from your #debtSeries 🙂

Thando is currently the Group Actuary at Clinix Health Group, having previously served as Actuary in Discovery Limited's R&D Lab. Thando loves tech, design, reading and is very passionate about the development of the African continent. Thando also runs, an omnichannel retail-tech startup. All views expressed are Thando's own and neither reflect nor are influenced by the views of affiliated companies.

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