Good debt vs bad debt. Is there such a thing as good debt?

Most of us think of debt as a bad thing. After all, owing money is commonly known as a bad thing that takes us further back from achieving our goals of financial freedom.

Debt is something that we have all become accustomed to. Very few of us can afford to pay cash for our home, our cars, or college tuition, so we borrow money to get it now and pay for it over time. Sound familiar? You aren’t alone.

As far as good debt vs bad debt, Bad debt can cause a lot of stress when we are burdened with payments that affect our way of life, whereas good debt can help us increase our income and help us achieve financial independence. The faster you can pay off bad debt the better you will become financially independent.

Let’s explore bad debt and good debt so you can see the difference.

So, what is Bad Debt?

Bad debt is something that we borrow money for that doesn’t increase in value or increase our net worth. If it doesn’t do that it is considered bad debt. For many of us, we have some or a lot of bad debt.

Some examples of bad debt are:

• Credit cards
• Payday loans
• Car payments
• Taking loans for vacations

Credit Cards

This is probably the worst bad debt you can have if you are keeping a balance and paying the high (19% or more) interest rate. This is the one most people get into trouble with.

So, what can we do about it?

If you can, pay off the balance every month. You do not pay any interest at all if you can pay it off each month. If you have a balance that you can’t pay off immediately, try to pay it down as much as you can each month until it is paid, then start paying it off in full each month.

Stop buying things you don’t need. If you have a 60-inch TV that works, then do you really need a new 70-inch TV? Do you really need that new outfit right now? I’m not trying to be harsh, just realistic. For most of us, every penny counts.

I also recommend using a cash back credit card that gives you money back each time you use it. Although you want to reduce your credit card spending, there are still many times that you need to use it so you might as well get some cash back. I personally use the Capital One Quicksilver Cash Back card and have been happy with it for many years.

Car Payments

Your brand new or nice used car that you just bought is worth less than you paid the second you drive it off the lot. Except for classic collectible cars, your car depreciates in value every month. It becomes of little value other than it is your mode of transportation.

If you have ever paid off a car loan you know how good it feels to be done with it and the car is now all yours.

All this doesn’t mean that we shouldn’t get a car loan. For most of us, it is a necessary evil. But just like everything else I talk about here, be smart about it. Shop for the best rate instead of just taking what a dealer offers. They get incentives for referring you to their lenders and are looking out for themselves. Also, buy within your means. That new car smell will be gone shortly, but the payments won’t. A Kia will get you down the road just as much as a BMW. Plus, the insurance will be a lot cheaper.

Some consider car payments to be good debt but considering how a car doesn’t add value over the long term, I hardly consider it a good debt.

So, what is Good Debt?

Good debt is still debt, but what you are using it for will help increase your income or net value over time. Good debt will more than pay for themselves.

Examples of good debt are:

• Home mortgage
• Student loans
• Rental home property mortgage

Home Mortgage

A home mortgage is considered by most to be good debt because you have a place to live, and it should go up in value over time. There are things to remember when buying a home and incurring a mortgage.

First is to buy within your means and buy a home that makes sense for your situation. A first-time homebuyer doesn’t really need a 3500 square feet home and the cost that goes with it if it means stretching your budget. A good rule of thumb is that you should not allocate more than 28% of your monthly gross income toward your mortgage. Your mortgage includes principle, interest, insurance, and property taxes or PITI.

Second, when it comes to applying for the home loan, always check with several lenders to find not only the lowest interest rate but also compare the lending fees they charge. A 1% savings in the interest rate will make a huge difference in your payment and how much the loan will cost you throughout its term.

Student Loans

Getting a college degree will open so many doors and pay better than not having a degree. The national average of pay for college graduates is somewhere between 40-50% higher than those without a degree. That is not to say you can’t make good money without a degree, but the odds are against you.

Using student loans to pay for college is good debt because it is investing in your future. It may take some time to pay off, but it can greatly reward you later.

There are many things to think about with student loans though. It is a great thing to pursue our passions, but many of our passions don’t pay very well or have little opportunities. Please do some in-depth research on the career you want to pursue before getting student loans and starting your education. Find out how good the opportunities are for your career and how much you might expect to get paid. Indeed and Glassdoor are good places to look for this.

Also think about a community college, even if your plans are for a four-year or more degree. You can complete most of the first two years of a four-year degree at a community college then transfer those credits to a university. This will save you a bunch of money, thereby reducing how much student loans you must repay later. Talk to the university that you are interested in and ask them what credits they take from a community college. This will also get you an Associate’s degree from the community college.

Rental Home Property Mortgage

Rental property is definitely good debt, unless you way overpay for the property. Buying a rental home will give you steady income with your renters paying for the mortgage. The home value should go up in value over time and give you a nice profit when you sell.

In addition to rental income, a rental home gives you good tax deductions since you can depreciate the property each year and deduct any improvements made on the property. If you can deal with tenants, I highly recommend it.

Good Debt vs Bad Debt

Look, I know none of this stuff is easy. It’s hard to cut back and be conscious of every financial step. Be aware of your debt and the options that you have to cut it down.

I hope this gave you a little insight into good debt vs bad debt and how it can help you. The list is not all inclusive but gives you an idea.

Before leaving you here I do want to mention that getting a personal loan or racking up credit cards that you can’t pay off immediately to take a vacation is bad debt. Memories are great, but you will be paying a lot extra in finance charges for it.

Taking the time to think through purchases before buying can be a very good habit to get in to. We all want the shiny new thing but think about how long and how much you will be paying for it. Good debt vs bad debt.

This is what making and saving more money can do for you:

• Help you to pay off your debt quicker.
• Help you to stop living paycheck to paycheck.
• Allow you to reach your financial freedom.
• It can help you to leave a job you hate and find something you like.
• You could retire sooner if you want to.

If you get a moment, please check out my post on How to Save Money Fast – Saving Money Tips for more ideas on how to cut down on monthly expenses to save what money you have.