Bad debt vs good debt: Learn what they are

For many people, debt can be intimidating to accept However, the truth is that taking on the right kind of debt will allow your business to grow and grow. So how do you work out what debt makes good business sense? It’s all about assessing the value that the debt is likely to bring to your company. What’s important is to evaluate the benefits that you hope to receive from the debt (such as being able to sell more) as well as the expenses associated with borrowing (such as interest and charges) as well as ensuring the former is more than the latter. If you’re taking on debt to make purchases that can improve productivity and performance in your business, then there’s generally nothing wrong with the use of debt. Taking on debt can also help you overcome any cash flow issues you may be facing. If you have ever run a stock business then you’ll know the cash flow problems that short-term companies often have to face. Working with a financial institution can provide relief to stop any stock outs or get you access to the bulk offer of your most popular product.

What is good debt?

In most cases, good credit allows a business to leverage capital they wouldn’t otherwise be able to access in order to boost their returns. Good debt is one which will aid your business in moving to the next stage - it could be for the purchase of a big piece of kit such as delivery vehicles, or even loans to assist with advertising and marketing. As long as you’ve got the potential to earn a profit from that loan (bigger than the cost) then it’s generally going to be a good debt. As an example, a skin abrasion and scar management clinic’s owner took out a small business loan to acquire a new salon, renovate the premises and hire an executive coach, which was considered good debt. The building was old and dilapidated. I wanted to clean them up and make an attractive space where people wanted to come to, where it’s comfortable, relaxing and cozy. It can also be employed to improve a company’s working capital and ease cash flow problems during difficult or quiet times like the summer months for service-based businesses. For many, Christmas is among the most wonderful occasions of the year. However, when everyone other people are enjoying their holiday this can be the worst time for business in the whole year. When people pay you late, sales may drop and suppliers want to be paid.

What is bad credit?

Bad debt On the other hand it is usually something that costs you more than what you earn from it. It’s not likely to drive sales, it’s unlikely to increase your bottom line or not likely to increase your overall productivity or value of your business. For example, under certain conditions, a new car for your company could be a bad debt. If borrowing money to buy the car will enable you to provide more services to the greater number of people across more places or it’s a car that you need to have to be able to provide the product you’ve developed, that’s an investment in value. But if it’s just a car you’re buying for the sake of having an impressive new car for the company and isn’t adding any direct value to your company, it’s an unworthy credit.

How to distinguish good debt from bad debt?

When it comes to determining the possibility that the business finance you’re looking at is an excellent debt or a bad debt, it’s crucial to calculate the numbers. He suggests that you ask yourself these questions:

• How much can I make with the money I’ve borrowed? What’s my chance?
• What is the amount of interest and other costs must I pay to cover the loan?
• Are I in a better financial position in the future?
• How much time will it take me to achieve this place?
• Could the money be utilized elsewhere to get a higher return within a shorter period?
• Are I spending more than my budget?

You should also consider the opportunities that extra funding can provide, and whether they will provide the net benefits for your business. When investing, you have to be aware of the ROI you’re earning on your investment. Maybe upgrading your site or shop will increase the number of customers you have, or a new piece of equipment can provide you a whole new revenue stream. It is important to prepare the return in advance, as well as the repayment timetable and your capacity. If you’re still uncertain whether the finance you take on will end up being a good debt or a bad debt to your company, speak to your accountant.