Bad debt vs good debt: Learn what they are

For many people they find debt to be daunting to take on, but the reality is that taking on the right kind of debt will allow your business to grow and grow. How can you figure out what kind of debt makes business sense? It’s about looking at how long-term value it is likely to bring to your business. What’s important is to evaluate the benefits that you hope to receive from the debt (such as the ability to increase sales) versus the costs of this debt (such as interest and charges) as well as ensuring the former is more than the latter. If you’re using the debt to finance purchases that can improve productivity and performance in your company, there’s generally nothing wrong with the use of debt. In addition, borrowing money can assist you in dealing with any sudden cash flow issues that you might be facing. If you have ever run a stock business and have experienced the short-term cash flow issues businesses typically face. Partnering with a finance provider can help stop any stock outs or get you access to the bulk discount of your product that is the fastest-selling.

What is good credit?

In the end, good debt permits a business to leverage capital they wouldn’t otherwise have access to for the purpose of increasing the returns. Good debt is one which will enable your business to move to the next level - it can be for buying the most expensive equipment such as delivery vehicles, or even to help with advertising and marketing. As long as you’ve made the potential to earn a profit from that credit (bigger than the expenses) then it’s generally going to be a great debt. As an example, a skin abrasion and scar management clinic owner obtained a small business loan to purchase the salon a new one, remodel the salon and employ an executive coach, which was considered a good credit. The building was old and dilapidated. I wanted to clean them up and make it an attractive space where people were eager to go in, where it’s warm, cosy and inviting. Good debt can also be utilized to boost a company’s working capital as well as smooth the cash flow challenges during challenging or quiet times for instance, like the summer holidays for service-based businesses. For most people, Christmas is among the most pleasant occasions during the entire year. Unfortunately, as everyone else is enjoying themselves it can also turn into the worst business period during the entire year. People pay you late, sales can decline and suppliers would like to be paid.

What is a bad debt?

Bad debt On the other hand it is usually something that will cost you more than the benefits you can get from it. So it’s either not going increase sales, it’s not going improve your bottom line or it’s not likely to increase the overall efficiency or value of your business. For instance, in certain conditions, a brand new company car could be a bad debt. If you’re borrowing money for that vehicle is going to result in you being able to do more work for greater numbers of people in more locations and it’s a vehicle which you’re required to have to be able to provide an item, that’s a value-adding vehicle. If it’s simply the kind of vehicle you buy just to get an attractive new car for your company, and it’s not really adding any direct value for the company, that’s an unworthy credit.

How to distinguish good debt from bad debt?

When it comes to determining whether the business finance you’re contemplating is an acceptable debt or a bad one, it’s essential that you crunch the numbers. It is recommended to ask yourself these questions:

• How much can I make from the funds I borrow? What’s the chance?
• How much interest and costs must I pay to cover the loan?
• Do I stand financially secure in the future?
• How do I have to wait to get to that standing?
• The money can be used elsewhere for a better return in a shorter period of time?
• Do I spend more than my means?

You should also consider the opportunities that extra funding will provide, and whether the opportunities you’re pursuing will yield the net benefits for your company. When you invest, it is important to understand the return you’re earning on your investment. Perhaps a revamp of your web site or store can increase the number of customers you have or a brand new piece of equipment can give you a new service line and income stream. It is important to plan the return, the repayment schedule and the capacity of your business. If you’re not sure whether the finance you take on will end up as a good or bad debt for your company, talk with your accountant.