My journey with debt has been a fascinating one, teaching me how it can either fuel wealth or lead to financial stress. When used recklessly, debt can have dire consequences—especially when it isn’t tied to income-producing assets or when leveraged trades go awry. However, when applied strategically and safely, debt can serve as a powerful tool for compounding the growth of your assets.
Avoiding Bad Debt
Growing up, my parents drilled into me the importance of avoiding debt. They believed debt was necessary only for purchasing a home, and outside of that, one should live within their means. This mindset, rooted in their working-class upbringing as teachers, made perfect sense; without significant investments or business structures, avoiding debt was a survival mechanism.
My first encounter with debt was after university when I traveled overseas. Between my travels, opening a Colombian kebab shop, and settling into life in Bondi, Sydney, I had accumulated about $20,000 in debt. This was largely what’s commonly referred to as bad debt—expenses that don’t generate income or appreciate in value. While the kebab shop might qualify as an exception, the rest of the debt burdened me without yielding long-term financial benefits.
To tackle this, I cycled through interest-free credit cards—not to grow the debt, but to minimize interest charges—and paid it off over a few years. That was my first and last experience with bad debt. From then on, I vowed to spend only within my financial means when it came to consumption.
Embracing Good Debt
Unlike bad debt, good debt is an investment in your future. It funds ventures that can appreciate in value or generate income, contributing to your long-term financial stability. Examples include:
- Education loans: Boosting earning potential with new skills.
- Mortgages: Purchasing a home or investment property.
- Business loans: Growing ventures that generate income.
Good debt typically features lower interest rates and aligns with strategic financial goals.
My first foray into good debt was when I invested in Agentpoint. Although the journey started rocky, it paid off when we sold the company over a decade later. Next came our first property purchase—a home classified as good debt, albeit without tax-deductible benefits. Real estate, especially in Sydney’s Eastern Suburbs, has historically been an excellent wealth-generating asset, and this investment proved no exception.
How Debt Leverages Returns
Leverage involves using borrowed funds to amplify potential returns, though it comes with inherent risks. Real estate is a prime example of effective leveraged debt. When you make a 20% deposit, the bank funds the remaining 80%. This high leverage enhances returns while minimising personal capital outlay.
For instance, if you buy a $500,000 property with a $100,000 deposit, and the property appreciates by 5% annually, that’s a $25,000 gain—a 25% return on your $100,000. While this doesn’t account for loan interest or rental income, it illustrates how leverage can accelerate returns.
However, leverage requires careful cash flow management. You need to anticipate macroeconomic factors like recessions (which can reduce rental income) or rising interest rates (increasing repayment costs).
A Missed Opportunity with Leverage
One of my mistakes was paying cash for an investment property instead of leveraging it. While this might make sense for a retiree seeking a steady income, it was a misstep for my investment goals. By not taking out a loan, I missed the chance to preserve my capital for other investments, maximise good debt, and gain tax advantages. This decision stemmed from poor advice from a mortgage broker who misjudged my borrowing capacity.
The Dangers of Overleveraging and Margin Calls
A significant financial lesson came during my second cryptocurrency bull cycle. Holding a substantial amount of Ether, I attempted to amplify my gains with leveraged derivatives trading. I placed bets at 10x leverage, essentially gambling on price movements. Initially, I saw success, but when the market peaked and retraced, I faced heavy losses—ultimately wiping out 40% of my crypto portfolio.
This painful experience taught me critical lessons:
- Avoid leverage in volatile assets prone to margin calls.
- Never be a forced seller; sell by choice, not necessity.
- Ensure safeguards to cover margin calls or interest payments.
Current Debt Strategy
Today, our portfolio includes leveraged real estate debt with offset accounts. This structure keeps our debt tax-deductible and reduces risk by relying on rental income to cover most interest payments.
We also use medium-term cash flow loans for investments or to sit in offset accounts. With lower interest rates than some real estate loans, these funds remain accessible and can be repaid easily.
Final Thoughts
Debt, when used responsibly, is a powerful tool for building wealth. By avoiding bad debt, embracing good debt, and leveraging strategically, you can compound your financial growth while mitigating risks. The key lies in understanding your goals, the nature of your investments, and the macroeconomic landscape.
TheBucket 