Everything you need to know about debt
Understanding Debt: The Good, The Bad, and the Manageable
When it comes to borrowing money, not all debt is created equal. Some debt can be a powerful financial tool, helping you to invest in your future. Other debt, however, can become a significant roadblock to your financial goals. Understanding the difference—and how your debt impacts your mortgage application—is key to staying on the right path.
The Good: Debt That Builds Your Future
Good debt is typically associated with borrowing for something that has the potential to increase in value or generate income over time. The most common examples are mortgages on property and loans to purchase or grow a business. These are considered good debt because they’re likely to help you build wealth in the long run.
Student loans can also fall into the ‘good debt’ category. While no one loves the idea of owing money for their education, a degree or qualification is generally assumed to improve your income potential. The same logic applies to borrowing for tools of your trade—think a builder financing a ute or a copywriter purchasing a laptop. These are investments intended to generate future income.
However, it’s essential to be honest about whether the debt truly serves a purpose. A newer model ute when the old one is still running fine, or designer shoes for a job interview, may not be as ‘essential’ as we like to think.
If you’ve run the numbers and your debt genuinely supports long-term financial health, there’s no need to lose sleep over it.
The Bad: Debt That Drains
Bad debt is typically the kind that funds short-term wants rather than needs—and it usually comes with high interest rates. Credit card debt used for nights out, gadgets, clothes, or holidays tends to fall into this category.
These debts are often encouraged by marketing from finance companies: “Buy now, pay later!” or “Treat yourself, you deserve it!” But these purchases quickly lose their shine when you’re paying them off at 20% interest and struggling to save for a home.
If you’ve already found yourself deep in bad debt—whether from an online shopping binge or an ill-advised loan—take a deep breath. You’re not alone, and there are strategies to help get you back on track.
The Grey: Where It Gets Complicated
Then there’s the middle ground—the debt that isn’t clearly good or bad.
Car loans, for instance, aren’t inherently bad. If buying a reliable car on finance helps you avoid ongoing repair bills and gives you peace of mind, it might be a smart move. Safety and reliability often justify the cost.
Microfinance loans are another grey area. In many cases, these loans are exploitative, with sky-high interest rates. But there are circumstances where they make sense—like when a small loan enables someone to start earning an income. While rare in New Zealand, microfinance has had a positive impact in developing economies.
The takeaway? Context matters. Even a high-interest loan can be strategic if it unlocks a sustainable income stream or solves a financial bottleneck.
How Debt Affects Your Mortgage Application
When applying for a mortgage, your existing debt can significantly influence how much the bank is willing to lend you.
The bank looks at your repayments and subtracts that from your income. If you earn $100,000 and pay $1,000 per month in loans, the bank might assess your income as just $88,000. But what often catches people off guard is that banks assume your repayments continue indefinitely—even if your loan only has a few months left.
So if you’re close to paying off a loan and can do so without compromising your deposit, consider paying it off before applying for a mortgage.
Credit card limits also come into play. Even if you only owe $500 on a $10,000 limit, the bank assumes you could max it out at any time. Reducing your credit limits (or cancelling unused cards altogether) can increase your borrowing potential.
Student loans, however, are treated more leniently. They’re interest-free (as long as you stay in New Zealand), and repayments are fixed at 12% of your income. Banks account for this and generally don’t penalise you for having a large student loan balance.
The Importance of Your Credit Score
Your credit score is a number between 0 and 1,000 that gives lenders a snapshot of how reliably you manage debt. Generally, a score above 700 is considered good.
Banks will check both your score and your credit activity for the past three months before approving your mortgage. Missed or late payments—even small ones—can negatively impact your application.
Activities that can hurt your credit score include:
Missed or defaulted payments
Applying for multiple credit lines in a short period
Payday loans and high-interest finance
Joint accounts or shared bills where the other person misses payments
Having no credit history at all
To find and correct any errors on your credit file, check with New Zealand’s three credit reporting agencies. ConsumerProtection.govt.nz has helpful guides for doing this.
Smart Debt Management: Where to Start
If you’re serious about reducing debt and preparing for a mortgage, start by ranking all your debts from highest interest rate to lowest. Pay off the most expensive debt first while continuing to make minimum payments on the others.
There are exceptions to this rule. If a small loan is hurting your mortgage application, it may be worth clearing that one first to boost your projected income.
You could also explore debt consolidation, which combines multiple debts into one, potentially at a lower interest rate. It can simplify repayments and reduce your overall burden.
Reducing your credit card limits—even if you don’t owe anything—can also improve your position.
How to Improve Your Credit Score
Always make repayments on time.
Pay off your credit card in full each month.
Cancel unused credit accounts.
Limit the number of credit applications you make.
Avoid high-interest lenders and payday loans.
Allow time for negative items to drop off your record—usually after four or five years.
Debt - Good or Bad?
Debt doesn’t have to be the enemy. In fact, when used wisely, it can help you invest in your future and achieve your financial goals faster. But understanding the type of debt you have—and how it impacts your ability to borrow—is essential.
With smart planning, careful management, and a focus on long-term value, you can take control of your debt and use it to your advantage.
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