Don't forget to rate the article

Sometimes it makes sense to borrow. In fact, avoiding debt at any expense could actually prove quite costly if it means you have no cash reserves for an emergency. After all, no one can say, "Our kids will always be healthy; I won't lose my job. The hot water heater? Nah, that will never break." There's always an unexpected expense waiting around the corner.

Financial planners talk about "needs analyses" which says that Good debt includes anything that you really need (a new home, car, or education, for instance), but can't afford without wiping out cash reserves or liquidating investments. And, of course, you must be able to afford the payments. And bad debt is debt that you’ve undertaken for something you don't really need (that trip to Bahamas, for example). Also the final key to good debt is the form it takes: High-rate credit cards, for example, are a terrible way to carry debt. In case you have the cash, the decision to borrow hinges on a comparison of what you'll spend in interest with what your savings could earn. For instance, if you can get a higher return from money you've borrowed than it will cost to pay it back, borrowing may make sense.

In fact broadly three major necessities merit borrowings.

Housing Loans: The chance that you can avoid debt altogether by paying cash for a new home is probably about the same as earning a spot on the next space shuttle flight. So instead of sweating the debt, your focus should be to carefully consider how much to put down versus how much of a loan you can afford. While it may seem logical to plunk down every available dime to cut your interest payments, it's not always the best move. You need to consider your need for cash reserves, what your investments are earning, your age and income prospects. It often makes sense to put a low down payment on a house, especially if you anticipate a lot of expenses.

Car loans: Since that new Jeep you've been eyeing will plummet in value as soon as you drive it off the lot, financing your car purchase often makes sense. In other words, by paying cash for a car you're essentially investing in an asset that can only decline in value. Approach that financing as you would a house, and look for the best rate available, whether it's from the dealer, manufacturers' finance divisions, or a local bank. Don’t loan shop by comparing monthly payments, keep your eye on the interest rate charged.

Financing college: If you've decided that you're willing to pay for their education, borrowing makes more sense than liquidating your retirement fund. And given the way that financial aid packages are calculated, it may pay to borrow rather than to build up a dedicated college fund. Your child will get less financial aid if there's a big pot of money on which to draw. Your best bet is to let your kids borrow, especially. With its guaranteed low rates and no interest payments until after graduation, you'll come out far ahead over borrowing against your home or provident fund But if you must borrow, be creative. Some colleges will give you a break on tuition if you pay for all four years at a time. So if you're prepared to borrow the money anyway, it could make sense to borrow in one fell swoop, and then pay back the loan over time.

When it is dumb to borrow? As a rule of thumb, don't ever borrow for goods that are consumed quickly like a vacation, clothes, restaurant tabs, gambling, and regular monthly expenses such as insurance or utility bills. Make it a habit to put all such expenses on one credit card and pay off the balance each month. If you can't pay that card in total, don't buy the stuff. If there's something you really want, but it's expensive, better to put aside a bit of cash over a period of weeks or months so you can pay the balance when it's due, avoiding interest charges.

Sometimes borrowing is a close call. Items like furniture, appliances, and certain home improvements fall into this category. It's preferable not to borrow for furniture, but you may be able to justify the interest expense if you're buying items that you'll keep for 10 years or more. Borrow for home improvements to the extent they add to the value of the house.

So, remember there is nothing wrong in borrowing but borrow smartly so that you can earn the benefits.

Aru Srivastava

Feedback

Rate this article