Learn from the rich and leverage credit to grow your net worth
By Irel Wong October 3, 2020
Photo by LoveFreund from Pexels
Do you have a love-hate relationship with credit? Well, you are not the only one. It’s one of those things that you don’t want but you need it to make those large purchases that you don’t readily have the cash to do so. For example to buy a house, a vehicle, business purchases, college tuition, medical expenses or anything else that requires a large sum upfront – these usually require a loan or credit. Having credit in these times may make sense but on the flip side, paying back interests is the part we all hate, especially when it’s a large purchase. I look at my mortgage statement and I cringe at the very thought of the interest payment every month and this is when that “hate” part comes into play. Banks love to give out mortgages, HELOCs (Home Equity Line Of Credits) and credit cards because this is where they make a major part of their earnings.
Understanding How Lenders do Credit Analysis
In order to use credit to your advantage, it is best to see how financial institutions do their analysis and credit risk management before giving you a loan. Their first priority is to make sure that you are able to meet your monthly debt obligations. This involves checking your credit history from one or more of the credit reporting agencies to see how you or your business have been managing credit. Your credit score is an important factor to lenders so it’s essential that you treat your credit very responsibly. Make all monthly payments on time and do not max out on all your credits. Lenders also want to know your cash flow – how much cash is coming in and going out in a given month and your financial projections – how you or your business will perform financially in the future. Once they gather all this information, they take a look at your assets and collaterals and arrive at a decision whether or not to grant you a loan and if so how much.
In the event you present a risk factor to lenders, there are several methods used depending on your risk factor to determine whether you get credit and how much. Lenders use certain techniques to reduce this risk factor and it’s not in your favor. One such technique is by charging a higher interest rate to compensate for the risk. Another method is to have you put up collateral as security for the loan. Lenders may also request periodic audits into your finances and verification of your character with those you do business with.
How and When to Leverage Credit
One thing I have learned is that credit is not bad! It’s how you use credit that may make it bad for you. You can use it for your advantage, which is a good thing to do, or you can use it without any deliberate plan and end up with enormous debts spinning out of control. So the questions I have for you are – How are you using your credit? And what are you using credit for? If you are using credit for consumable goods only then this will hurt you in the long run if you’re not paying off the balance at the end of the month. The wealthy use credit to invest into money making initiatives and to make more money, period! The best way to use credit is to use it to make money – either investing in yourself, investing in a business startup or expansion, purchasing real estate or even paying off a higher interest loan. Always look at using debt as a way of advancing your financial initiatives that will put you at a better place financially.
Photo by Andrea Piacquadio from Pexels
Liquidating your investment, your securities, a portion of your business, or your property may have negative effects on your wealth building. Doing these put you at risk of losing out on opportunities that could have yielded better results and tearing down what you have invested so much of your time building. Another thing to consider as well is the adverse tax implications that comes with liquidating. Selling securities to access funds will always have tax consequences so think carefully before doing so. Leveraging debt and credit in these situations may be a better option depending on the investment or business initiative you are considering.
Now that you know credit and debt should be used mainly to advance your financial initiatives and put yourself at a better place financially, here are some ideas on when to leverage your borrowing potential.
One Dozen Ways How to Use Credit to Grow your Wealth
Get a home loan to purchase your main home. Put some of your cash as down payment but leave some available for emergencies
Access HELOC to purchase another property for rental investment
Use HELOC to pay off or pay down on the mortgage of your main (You pay less in interest if done within the first 5-10 years)
Borrow against your securities rather than liquidate them
Apply for a Small Business loan for a business start up or expansion.
Use credit for Business supplies and equipments
Use margin to purchase additional securities. Make sure you are aware of your broker’s margin call policies.
Use student loans to invest in yourself and your career if you can’t access grants or scholarships. Make sure it’s a profitable field of study.
If your business requires vehicles to be profitable, use auto loans to finance the vehicles.
Use loans to cover unexpected medical expenses.
Get a loan from family/friends.
Access credit to make improvements to your house and then have it reappraised. Some home improvement increases your property value dramatically.