While excess debt is detrimental to the financial health of companies and individuals alike, access to credit is usually considered a good thing. Access to credit lets individuals buy things like a car or home and pay for a child's college education.
Companies and governments issue debt instruments, such as bonds and commercial paper, for current operating expenses, and to fund growth or research and development. Debt obligations – whether for individuals, companies or governments – are usually classified as either long-term or short-term, based on when they are expected to be paid off.
Examples of personal short-term liabilities include payday loans and other personal loans due to be paid off within a year. Some short-term debt investments include U.S. Treasury bills, demand deposits, certificates of deposit and money market mutual funds.
Personal Short-Term Debt
Your personal short-term debt obligations are those that you must pay off in one year or less. Your car loan, home mortgage and student loans were probably long-term obligations when you first took them out, but once you've paid them down to less than a year to pay-off, they become short-term debt obligations. Your credit card bill can be either a short-term or long-term debt, depending on whether you must pay it off within a year. Payday loans and other consumer loans with terms of less than a year are examples of short-term personal debt.
Short-Term Debt Investments
The flip side of your personal short-term debt obligations is your short-term debt investments. Short-term debt investments are those that mature in one year or less. Short-term debt investments typically involve less risk than long-term debt investments, and as a result usually pay lower interest rates than comparably rated long-term debt securities.
U.S. Treasury Bills
Among the most common of all short-term debt investments are U.S. Treasury bills. T-bills have maturity dates that range from a few days to one year. They are sold at a discount to face value and can be redeemed for their full face value upon maturity. T-bills have the added benefit of being backed by the full faith and credit of the United States government.
Demand Deposit Accounts
Demand deposits, such as a bank passbook savings account, are short-term debt investments, and you can withdraw your funds from a demand deposit account at any time without incurring a penalty. Demand deposit accounts with most U.S. banks are insured by the Federal Deposit Insurance Corporation up to the maximum amount allowed by law. Due to the ready accessibility and safety factor, the interest paid on demand deposits is usually quite low.
Certificates of Deposit
You can get a better interest rate on your savings if you agree to leave your money on deposit for a set period of time. Bank certificates of deposit come in a variety of maturities, including short-term CDs with maturities of less than one year. In addition to a higher rate of return, you get the same FDIC insurance benefits as your demand deposits. You might also be subject to an interest penalty if you withdraw your funds from your CD prior to maturity.
Money Market Mutual Funds
A money market mutual fund is a special type of mutual fund that invests only in low-risk securities, such as the short-term commercial paper of major corporations, short-term bank certificates of deposit and short-term U.S. government securities. Money market mutual funds are not insured by the FDIC or any other governmental agency, but they typically pay higher interest rates than demand deposit accounts, and you can usually access your funds through drafts or branded access cards.
Video of the Day
- patriot credit card image by Ray Kasprzak from Fotolia.com