There is little alternative for young people to acquire the things they need than borrowing – for a car, household appliances, and in time a home. They then aim to pay those debts off and usually try to avoid or minimise further borrowing. That isn’t always smart.
Some of the things we buy appreciate in value, while others depreciate. If we buy a home, in nearly all cases, over the long term, its value will rise. It will appreciate. If we buy a car, in nearly all cases its value will decline. It will depreciate.
If we borrow to buy a car, as we pay the loan down, its value will fall. If we are lucky, it will still be worth a small amount when we fully repay the loan. So borrowing for a car, household appliances or a holiday will leave us with little.
If we borrow to buy a block of land, a house or a parcel of major company shares, as we pay the loan down, the asset value will rise. Increasing value and reducing debt means we build equity, wealth. So a good rule is – borrow to buy appreciating assets but not depreciating assets.
Assets that pay an income while growing in value appeal most. An investment property brings in rent and shares pay dividends that can be used to make loan payments.
Interest rates have risen to be much higher than in previous years. Those considering an investment loan must think carefully whether they can afford the payments, but the higher rates won’t affect their investment performance.
Interest rates are high because inflation is high. Assets increase in value more quickly when inflation is elevated. No more land is being made and demand for it keeps growing. We have a serious shortage of houses in Australia that will get worse before it gets better.
BHP and other major companies rarely issue more shares. They are scarce. Those who want to own them and benefit from their growing profits must pay up.
Lower borrowing costs are better but investors shouldn’t be put off by rates of 6, 7 or even 8 per cent. Long term, it will usually work out. Interest rates are likely to come down in the future. Interest-only loans require lower payments.
Most people who have become wealthy by their own efforts used borrowing as one of their strategies. It involves some risk, but we need to take risk to get ahead. Risk can be managed by good planning.
Loans can be against a property. If none is available margin loans can be used for managed funds and shares. These can be for smaller amounts than a property. Investors can borrow now, invest, prepay next year’s interest, claim a deduction in this year’s tax return, and earn a quick tax refund.
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