Good Debt vs Bad Debt
Is there such a thing as good debt?
Yes! Believe it or not, there is such a thing as good debt. If you're wondering how your debt looks to lenders and others reviewing your credit report, read on to learn about good debt vs bad debt.
What's the difference between "good" debt and "bad" debt?
Some people have different ideas about what makes debt good or bad, but the general consensus is that good debt is debt related to things that hold or gain value, or improve your life and financial situation. Bad debts are generally considered to be things that depreciate in value, or non-essential items.
What are some examples of "good" debts?
- Mortgages: Home values in the United States have been steadily increasing since 2012, so investing in a home is a good form of debt that will likely pay off in the future.
- Student Loans: A college education generally increases your average expected income, so an investment in a degree is considered to be good debt. Some argue that the "goodness" of student loan debt differs by college major (graduates in STEM fields make higher average salaries than those in liberal and fine arts), but as a rule, any amount of education is considered personal betterment and something that will have positive returns.
- Small Business Loan: Small business loans can be a gamble, as many small businesses fail within the first few years. However, if you take out a personal business loan and find success, this investment proves to be an incredibly worthwhile one, and certainly counts as "good" debt.
What are some examples of "bad" debt?
- Credit Card Debt: Credit card debt often signals overspending on material things such as electronics, clothing, and other less than essential items. Obviously, everyone needs clothes, and many people need access to things like a cell phone and a computer for work or school. However, there's a big difference between buying what you need and buying what you want. If you've spent beyond your means on material purchases and ended up in credit card debt, this is definitely "bad" debt.
- Payday or cash advance loans: Short-term loans have huge fees attached to them, and often lead to cyclical patterns of borrowing against your next paycheck, using that paycheck to pay back the short-term loan (plus fees), and then needing another one to get you through to the next paycheck. This kind of borrowing and debt is one of the worst and most dangerous forms of debt, and one you should avoid at all costs.
What about car loans? What kind of debt are they?
Debt pertaining to auto loans are a bit of a gray area. Unless you live in a city with plenty of resources within walking distance and a good public transit system, having a car is a necessity for most working adults. While you can pay cash for a used vehicle, if you want something safe and reliable that you won't have to put more money into repairing, you might need to take out a loan. Car values depreciate significantly, basically the second you drive them off the lot, but that doesn't mean that a car loan has to be bad debt. Your best bet is to make sure that, if you need to take out a loan to finance a vehicle, make sure it's a responsible choice. Do some research and find out what makes and models hold their value well, and don't over-extend yourself financially. That luxury SUV might look really cool on the lot, but the smarter move financially is probably the more economical sedan.
Where can I learn more about debt and vehicle financing?
We have tons of resources for people looking to learn about credit, debt, and financing a new vehicle. For general tips on improving credit or managing bad credit, click here. To submit specific questions to our finance professionals, click here. And to apply for a loan, click here.