Good vs Bad Debt: Strategies To Identify & Manage Debt the Right Way

words Al Woods

Does the thought of repaying your ever-growing student loan debt keep you awake at night? Are you wondering if you should take on a mortgage, but not sure if it’s the right choice for you? Are you looking to build your credit score, but not sure what differentiates “good” from “bad” debt?

While good debt is generally defined as borrowing money for an asset that will eventually appreciate (such as a mortgage), the idea that some debt is inherently beneficial to building future wealth while another debt is financially ruinous is not necessarily true.

Chances are, you may have a skewed vision of what differentiates “good” debt from “bad” debt. Let’s explore the most common types of debt you may encounter and lay the groundwork for managing debt in your life the right way.

Manage Debt

You May Have A Skewed Vision Of Debt

There is no debt you take on that is wholly bad or wholly good. The debate of “Good vs. Bad” debt is nuanced and largely dependent on what is best for the individual.

Financial peace experts recommend that you ask yourself one question before taking on any kind of debt: will I eventually get more out of this than I am putting in?

Only if the answer is “yes” should you proceed with taking on debt, whether for a home mortgage, small business loan, or higher education costs. Let’s explore some of the most common ways Americans rack up debt and how to decide which type may be “good debt” for you.

Common Types Of Debt + How To Manage Them

Mortgages

Entering into a mortgage has long been considered one of the safest “good debt” options for Americans to build wealth and gain a tangible, appreciating asset.

While taking on a mortgage may be a beneficial choice for your family, it’s not necessarily foolproof. During the Great Recession of 2008, experts estimate that almost 4 million Americans lost their homes due to foreclosure, and historians are already calling the rampant financial struggle caused by Covid-19 the next great American housing crisis. If we can learn anything from these incidents it’s that housing prices don’t always rise, and borrowers must think carefully before taking on housing debt.

Successfully manage your mortgage and create good debt that builds wealth by factoring in potential family growth, budgeting for unforeseen circumstances, and not taking on a bigger mortgage payment than you are ready to handle. For example, for a 120000 mortgage you’ll need to consider all the factors before making a decision.

Manage Debt
Credit Card Debt

Credit card debt is a slippery slope. On the positive side, credit card usage can boost your credit score. But the second you miss a payment or rack up more debt than you can pay back, your credit card can fall in the category of “bad debt” very quickly. Make your credit cards work for you by monitoring your spending, and only charging what you can actually afford to pay back.

Of course, many in this economy have had to rack up credit card debt due to unforeseen financial circumstances in the wake of Covid-19. If you are currently in debt from a layoff or dipping into your savings due to the pandemic, you’re not alone. If you are struggling under the crushing weight of debt, consider contacting a bankruptcy law firm, financial advisor, or even reaching out to your lenders to reach a financial solution that works for you.

Student Loan Debt

The student loan debt crisis hit its apex in America in 2020, with a collective $1.7 trillion owed. The average borrower now owes approximately $30,000, but many take on much more than that, hoping it will secure them a future job or praying for federal student loan forgiveness.

So, how do you fund your education without inherent wealth? Debt management experts say it’s fine to take on student loans, but recommend you only take out as much as you’ll make in your first year’s salary. For example, if you are studying to become a teacher and take on $70,000 in debt, but your starting post-grad salary is $35,000, you may want to reconsider your choice of school. Student loans can be “good debt” for you if you have a clear path to pay them off.

Conclusion

The most important principle to deciding if a debt is good or bad for you is asking yourself the question: will I eventually get more out of this than I am putting in?

The debate of good vs. bad debt will always be nuanced, and it’s important to consider your potential returns when taking on student loan debt, credit card debt, small business loan debt, or a mortgage.

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