Taking on a large amount of debt can be scary, and that’s why some people hesitate to invest in property. The word “debt” usually evokes negative responses, but there are two kinds of debt: “good debt” and “bad debt.” Understanding the differences between these types of debt is the key to thriving as a property investor.

Bad Debt vs. Good Debt

There’s one key difference between bad debt and good debt. Bad debt is used to buy liabilities, and good debt is used to buy assets.

Bad debt halts your forward progress because it means you have to continue to pay for items that don’t create wealth or cash flow. It also prevents you from getting loans in the future because your debt-to-income ratio is high.

Good debt, on the other hand, helps you to create wealth. Since good debt is used to purchase assets, it can help you to leverage what you already own in order to acquire even better assets. This process increases your returns and makes for a winning property investment strategy.

What if I Already Have Bad Debt?

Bad debt can be a hindrance to investing in property, but there are great strategies for getting rid of bad debt to make room for good debt.

In some cases, debt consolidation services can be very helpful, but you need to be cautious. Some of these services are expensive, and they may not be worth the simplicity of one monthly payment.

An effective do-it-yourself debt elimination strategy is sometimes called the “snowball method.” Make a list of your bad debts, including interest rates and balances. Each month, pay the minimum amount on all of your debt repayments except for the debt with the highest interest. Pay off as much as you can each month on your highest interest debt until it’s eliminated. Next, pay off your next highest interest debt. Each time you get rid of a debt, the amount you have available for paying off the next debt will snowball. Soon, you’ll be free of all your bad debt.

It’s also extremely important that you stop accruing new bad debt. If credit card spending is a problem, cut up your cards immediately. Do what it takes to rid yourself of bad debt – your future wealth will thank you.

Shopping for Good Debt

Once your bad debt is eliminated, you can start thinking about taking on good debt; the kind that helps you to purchase assets.

Lenders usually have a different set of rules for loans on investment properties than they do for loans on primary residences. For example, it’s not uncommon for lenders to require just 5% or 10% for the down payment on an owner occupied home, but that’s not always the case for an investment property. Lenders often require a 20% down payment for investment properties.

For this reason, you’ll need to come up with some cash before you’re ready to shop for a loan. Some people sell an asset to secure the cash. Others make some budgetary sacrifices and save for a while.

Finding a Trusted Lender

A reliable, professional lender is an important member of any property investor’s team, so choose wisely. Once you’ve invested in one property, you’re likely to invest in another down the road. After all, you’ll have equity in your first property that can be leveraged to purchase the next. If you’ve built a solid professional relationship with a great lender, you’ll be able to call him or her up and discuss the possibilities with new properties you find along the way.

Good Debt Offers Opportunity

Perhaps the most compelling reason that first-time investors shouldn’t be afraid of debt is that good debt launches opportunities. Without the loan to help you purchase your first investment property, it’s difficult to grow your portfolio. You won’t be able to improve the property, lease it to tenants, build equity every single month, and use that equity to purchase your next property. These are opportunities not to be missed, so do what you can to replace bad debt with good debt – the kind that helps you to build wealth and collect assets long into the future.

For more information about debt, or to discuss any other investment property topic, contact us at Full Financial Services.