Bad debt vs good debt: Learn which is which

For many people it can be a daunting task to accept however the reality is that having the right amount of debt could allow your company to grow and thrive. How can you figure out what debt makes good business sense? It’s all about looking at the long-term value of the debt is likely to bring to your company. What is key is comparing the benefits you expect to receive from the debt (such as being able to make more sales) as well as the expenses associated with taking on the loan (such as interest and charges) and ensuring that the former is greater than the latter. As long as you’re taking on the debt to purchase items that can improve productivity and performance in your business, then there’s generally nothing wrong with borrowing. The use of debt can assist in the resolution of any cash flow problems you might have to face. If you’ve ever had the opportunity to run any stock-based business and have experienced the short-term cash flow issues companies often have to face. Partnering with a finance provider can help stop any stock outs or get you access to the bulk deal of your fastest-selling product.

What is good credit?

In essence, good debt allows an organization to borrow capital that they would not otherwise have access to in order to increase the amount of money they earn. Good debt is one that can aid your business in moving to the next stage - it could be used to purchase a big piece of kit, getting delivery vehicles or even debt to help with advertising and marketing. As long as you’ve got a return on that debt (bigger than the cost) that’s usually going to be a good debt. For example a skin wound and scar management clinic’s owner took out a modest business loan to purchase an all-new salon, upgrade the salon and employ a business coach which was considered good debt. The building was old and dismal. I needed to freshen them up and make the perfect place where visitors wanted to be, where it’s nice, cosy and inviting. Good debt can also be used to boost a business’s working capital, and to smooth out the cash flow challenges during challenging or quiet periods, such as the summer vacations for businesses that specialize in service. For most people, Christmas is one of the most wonderful times in the calendar. While everyone other people are enjoying their holiday this can be the worst business period in the whole year. When people pay you on time, sales might decrease and suppliers will want to be paid.

What is a bad debt?

Bad debt On the other hand is typically something that will cost you more than the benefits you can get from it. It’s not likely increase sales, it’s not likely to boost your bottom line or it’s unlikely to enhance the overall efficiency or value of your company. For example, under certain circumstances, purchasing a new company car can be a bad debt. If you borrow money to purchase the vehicle will enable you to provide more services to greater numbers of people in more locations or it’s a car that you need to have in order to deliver the product you’ve developed, that’s a value-adding vehicle. If it’s simply a vehicle that you’re buying to have an attractive new car for your company and isn’t providing any value directly to the business, that’s a bad credit.

How to distinguish good debt from bad debt?

When it comes to determining the possibility that the business finance you’re contemplating is a good debt or a bad debt, it’s important to crunch the numbers. It is recommended to ask yourself the following questions:

• What is the maximum amount I can make from the funds I’ve borrowed? What’s the best way to make money?
• What amount of interest and charges must I pay for the debt?
• Are I financially secure in the long run?
• How many years will it take to reach that positive situation?
• Can the funds be put to use elsewhere to get a higher return within a shorter amount of time?
• Am I spending beyond my budget?

Consider the potential benefits that funding can provide, and whether the opportunities you’re pursuing will yield an overall benefit to your company. When investing, you have to know the value you’re getting on your money. Maybe upgrading your site or shop will bring in more customers or a brand new piece of equipment may provide you a whole new revenue stream. The main thing is you prepare the return in advance, as well as the repayment timetable and the capacity of your business. If you’re not sure whether finance will end up being a good debt or bad debt for your business, speak with your accountant.