Good debt or bad debt? What makes a debt good in the first place? Shouldn’t debt be a bad occurrence? What can be good about debt? You probably have these questions and more running through your mind, right?
Well, how you use debt matters, if it is used properly, it will be a boon for financial success. But if misused it will be a bane for financial failure. Suppose there’s such a thing as good and bad debt, how do I know if I have good debt or bad debt?
If this relates to information you’d like to know, then you are in the right place. Keep on with this post as we discuss what good and bad debt is, with a few examples to help you understand it better.
What Is Good Debt?
Any debt that helps you increase your income, net worth, and has long-term value is a good debt.
Smart money people leverage debt as a financial tool to expand their cash flow. They purchase assets that will appreciate in the long run. But poor people use debt for consumption and to buy liabilities.
This is one of the reasons why the rich get richer while the poor, poorer.
Examples of Good debt
Borrowing for Education
Borrowing to pay for your college is an invaluable investment that will pay you upon entering the workforce. Therefore if you borrow for your education, you are increasing your earning ability.
Borrowing for Business
Money is required to start a business and to keep a steady cash flow. If you have a business plan that you are passionate about and skilled at, you can take a loan to kickstart it. However you should be careful when taking a business loan, so you don’t spend your profits on interest fees.
Borrowing for Home Mortgage
The home mortgage also known as real estate is an oil well for entrepreneurs and big investors. Over the years, home mortgages have shown to be profitable investments in the long term. So, if you borrowed for a home mortgage investment, then you have good debt, especially when you have equity.
Borrowing to Consolidate Debt
If you have so many high-interest debts like payday loan debts, you can merge them into a single debt and then get a bigger loan to offset those debts. Loan consolidation will save you from paying high-interest charges on the payday loans you owed.
What Is Bad Debt?
A bad debt is an irrecoverable (unpayable debt.) Borrowing money for spending, utilities, and the purchase of depreciating assets can result in bad debt.
How do you expect to pay back the loan you used on things that cannot bring a return on the money spent? That’s like shooting yourself in the foot.
Examples of Bad debt
Borrowing to Pay for Liabilities
One major situation for bad debt is borrowing to pay for liabilities.
If you borrow money to buy a personal car, pay for utilities, go for a vacation, buying a vehicle beyond your means, and other stuff that does not add to your net worth, that means you don’t need those things in the first place.
It is so unwise to spend beyond your means, and much more unwise to purchase liabilities with loans.
Conclusion
A debt can become a bad debt or good debt depending on what it is used for. If it improves your lifestyle financially, then it is a good debt. But if it puts a strain on you financially and impacts your financial life negatively, then it is a bad debt.
