Real estate often plays a catalytic role in improving finances and helping families achieve financial freedom. But if you already have existing debt on the books, you need to do your due diligence prior to taking on any more.
Good Debt vs. Bad Debt
Before diving too deep into the discussion of whether or not it’s smart to invest in rental properties when you have existing debt, it’s important that we discuss the nuances of debt. In particular, we need to examine the difference between what financial advisors call “good debt” and “bad debt.”
Good debt is generally considered debt that you have against an appreciating asset—such as a house or business. Ideally, this debt creates cash flow for you. At the very least, the asset’s value appreciates over time and puts you in a stronger financial situation.
Bad debt is debt that you have against things like credit cards, car loans, and student loans. With bad debt, there is no appreciating asset. There also tend to be high interest rates, which makes it easy to fall behind on payments.
As the old saying goes, good debt will make you rich, while bad debt will make you poor. This is obviously an oversimplification, but you get the picture.
Investing in Real Estate With Debt
Very few Americans are totally debt-free. There are plenty of people who have gotten rid of their bad debt, but even those people typically have some good debt on the books. Thus the question arises: Can or should you invest in real estate while in debt?
The answer to this question isn’t as straightforward as you may like. While you certainly can, you’ll have to do some careful analysis to determine whether or not you should.
For starters, if you’re drowning in bad debt—i.e., credit cards, vehicles, and student loans—it’s not smart to think about adding more debt to the equation (even when it’s good debt). Your money is much better spent paying down these debts and digging yourself out of the hole you’re in.
But what about those who have very small amounts of bad debt or strictly good debt? This is where the discussion gets interesting.
Before getting too far along in your research, you’ll need to make sure you even have the option of bringing on more debt. While lenders don’t require you to have zero debt to qualify for a loan, they do want to see your debt-to-income (DTI) ratio to understand how much of your monthly income is going toward debt.
Keep reading the article “Should You Buy a Rental Property If You Have Existing Debt?” here:
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