Bad debt vs good debt: How to identify what they are

For many people it can be a daunting task to contemplate But the truth is that taking on the right type of debt will allow your company to grow and prosper. How can you figure out what kind of debt makes business sense? It’s all about looking at the value that the debt is likely to add to your company. The most important thing to consider is the benefits you’re hoping to gain from borrowing (such as being able to sell more) as well as the expenses associated with taking on the loan (such as interest and fees) as well as ensuring the former is more than the latter. If you’re taking on the debt to make purchases that can improve efficiency and productivity in your company, there’s usually nothing wrong with the use of debt. It can aid in overcoming any short-term cash flow issues you could be facing. If you’ve ever had the opportunity to run a stock business then you’ll know the challenges that short-term cash flow businesses typically face. Partnering with a finance provider can provide relief to stop any stock outs or get you access to the bulk discount of your product that is the fastest-selling.

What is good debt?

In simple terms, good debt allows businesses to leverage capital they wouldn’t otherwise be able to access in order to boost their profits. Good debt is debt which will aid your business in moving to the next level - it could be for the purchase of the most expensive equipment such as delivery vehicles, or even debt to help in marketing and advertising. As long as you’ve made the potential to earn a profit from that loan (bigger than the amount you incurred) that’s usually going to be a decent debt. For instance, a skin wound and scar management clinic proprietor took out a tiny business loan to purchase an all-new salon, upgrade the premises and hire a business coach which was considered good credit. The salon was quite old and dilapidated. I wanted to brighten them up and make a beautiful space where visitors wanted to be, where it’s nice, homey and warm. The good debt is also employed to improve a company’s working capital and smooth out the cash flow challenges during challenging or slow times, such as the summer holiday season for businesses that specialize in service. For the majority of people, Christmas is among the most pleasant occasions during the entire year. While everyone else is enjoying themselves the holiday season can turn into the most difficult business time of the year. Paying customers are on time, sales might decline and suppliers would like to be paid.

What is bad credit?

Bad debt However, bad debt typically costs more than you get out of it. Therefore, it’s likely not to drive sales, it’s unlikely to increase your bottom line, or not going to improve the overall value or productivity of your company. For example, under certain conditions, a new company car could be considered a bad loan. If borrowing money to buy the vehicle will lead to you being able to work harder for greater numbers of people in more locations, or it’s a vehicle that you need to have in order to deliver your product, then that’s an asset that adds value to your business. If it’s simply the kind of vehicle you buy for the sake of having an impressive new car for the company and isn’t providing any direct benefit for the company, that’s an unworthy debt.

How to determine the difference between good and bad debt

In order to determine what business financing you’re considering will be a good or bad debt, it’s vital to crunch the numbers. He recommends you ask yourself these questions:

• What is the maximum amount I can earn from the money I’ve borrowed? What’s my chance?
• How much interest and costs will I have to pay on the loan?
• Do I stand in a better financial position in the long run?
• How long will it take me to achieve that positive place?
• Could the money be utilized to purchase other products for better returns within a shorter time?
• Are I spending above my means?

You should also consider the potential benefits that funding can provide, and whether they will provide a net benefit for your company. When investing, you have to know the value you’re getting from your investment. Maybe a new web site or store can increase the number of customers you have or a new piece of equipment can bring you a brand new income stream. The main thing is you budget the return, the repayment schedule and your ability. If you’re still uncertain the likelihood of finance as a good or bad debt for your business, speak with your accountant.