TABLE OF CONTENT

blog-card-logo

Discover your MoneySign®

Identify the personality traits and behavioural patterns that shape your financial choices.

Liabilities: Overlooked, Misunderstood, and Mismanaged

4 July 2022 3 min read
Liabilities: Overlooked, Misunderstood, and Mismanaged

What comes to mind when you think about liabilities? Is it visions of overdue bills, crushing loans, angry creditors; or more reassuring thoughts of buying a home, studying abroad, growing your business? Both scenarios are possible, but your understanding of liabilities is what determines your ability to manage them, as well as your propensity to accumulate them.

If your financial and personal aspirations are more ambitious than what your current financial profile allows, then acquiring a liability might seem like the most rational option to achieve your goals. And contrary to popular thought, liabilities can work as tools for building wealth. Well-planned liabilities, especially, are not meant to increase anxiety, but to enhance peace of mind and get you closer to your goals. For instance, paying regular installments on a home loan will eventually lead to being content with a home of your own. A good liability will provide gains — either in terms of being an asset whose value appreciates in the long-term, or in facilitating a more comfortable life that you’re capable of creating.

Complexities arise when people misjudge and misuse liabilities. One way to navigate these decisions is to ask yourself if the risk of taking on a liability justifies the projected rewards, or the opportunities arising thereof. For instance, the convenience of owning a vehicle validates the decision of taking a car loan, even if the car might have depreciating value in the long run. On the other hand, defaulting on credit card bills or opting for Buy-Now-Pay-Later plans when your bank balance can’t support them will inevitably land you in debt and also damage your credit score. For liabilities to work in your favour, your cash flow needs to be stable.

In the quest for wealth-building, people tend to prioritise asset allocation over liability planning. But the latter is as important as the former, if not more. The idea behind being more mindful about assuming and repaying liabilities is to amass capital that will reduce your expenses in the long run. In doing so, you will be left with a surplus to direct towards accumulating more assets and further increasing your net worth. For instance, liquidating certain assets (such as low-interest fixed deposits) to repay liabilities (such as high-interest loans) can help reduce the tenure of that loan, and consequently reduce your financial stress.

There are many approaches to managing liabilities, but a good way to start is by taking stock of your financial situation. Calculate your net worth to measure your capacity to take on a liability. If you’re solvent enough to take the risk, choose a “good liability” — one that helps you obtain an appreciating asset.

Once you undertake the liability, track it regularly. During this period, if you come across a more lucrative option that improves your cash flows (for instance, a loan that has a different term or a lower interest rate), consider replacing the liability. Finally, when repaying liabilities, prioritise paying off high-interest loans first — either by channeling surplus income towards making additional payments or, again, by liquidating low-return assets.

The ultimate aim of liability planning is to manage cash flows and inculcate financial discipline. It’s important to remember that this is a process that looks different for each person. Understanding the objective of taking on a liability and educating yourself, either through reliable resources or professional advice, is the first step towards harnessing liabilities as a tool for accelerating your financial growth and enhancing your financial health.

Please note,

The views in the article /blog are personal and that of the author. The idea is to create awareness and not intended to provide any product recommendations.

blog-card-logo

Discover your MoneySign®

Identify the personality traits and behavioural patterns that shape your financial choices.