As American households continue to take on more debt, it has become clear that this is now a way of life for many. The most recent Quarterly Report on Household Debt and Credit from the Federal Reserve showed that total household debt rose by $312 billion in the second quarter of 2022, reaching an unprecedented $16.15 trillion.
Debt can be a major financial burden, but it doesn’t have to be. By understanding which ones are good debt or bad debt and how to manage them responsibly, you can use debt as a tool to build your wealth.
Debt can often be a source of stress and anxiety. It can be difficult to know which type of debt is “good” or “bad”. Here is a breakdown of some different types of debt and how they are typically categorized.
Good debt vs. bad debt
| Good debt | Bad debt |
|---|---|
| Mortgage | Credit card debt |
| School loan | Store credit card |
| Real estate loan | Auto loan |
| Business loan | – |
How Do You Define Good Debt?
Debt can be a good thing. It can help you increase your net worth and build wealth. Good debt, like a student loan, can help you afford an education. A mortgage can eventually be paid off, leaving you with the deed to your home. A business loan can give you the capital you need to build a successful business.
Debt can be a good thing. It can be an investment that pays off in the end. “Good debt” increases in value over time. This type of debt can help you reach your financial goals.
When it comes to taking on debt, it’s important to be strategic. You don’t want to overdo it and end up facing a lot of risks. To help mitigate that risk, there are a few rules of thumb you should follow. Shop around for the lowest interest rate possible. Research possible protections and payment plans available to you. And create a timeline to hold yourself accountable to your repayment plan.
How Does Bad Debt Affect You?
Debt can be a difficult financial burden to carry, especially when it comes in the form of high-interest consumer debt. This type of debt, often called “bad debt,” can make it difficult to meet your long-term financial goals. Bad debt usually includes any credit card debt with a high-interest rate, auto loans with lengthy terms, or store credit cards that could tempt you to overspend.
What separates good debt from bad debt is that bad debt funds depreciate assets, while good debt can give you access to an asset that will increase in value over time. In terms of interest rates, bad debt tends to carry higher interest rates than good debt.
You could find yourself in a position where you’re paying more than the asset is worth because you’re stretching out that payment over a long period at a high-interest rate.
When Taking On Debt, What Should I Consider?
Debt can be a major financial burden, preventing you from reaching your financial goals. But is it always a bad thing? Taking on extra debt can help you purchase your first vehicle, become a homeowner or start your own business. So when weighing your options, ask yourself these key questions to determine whether taking on debt is worth your time and effort.
Before taking on any kind of loan, it’s important to think about whether or not your monthly payments will be affordable. Student loans, mortgages, and lines of credit can all become too much of a burden if your finances are tight. In these cases, it may be necessary to explore options that will give you some financial breathing room.
There are several different payment plans available that could make your debt more manageable. You should investigate all of the options available to you and determine which one makes the most sense for your particular situation. Additionally, be aware of any potential late fees you could face if you miss a payment. Finally, various debt relief programs could help you stay afloat financially if you cannot pay back the money you borrowed.
When it comes to taking on extra debt, it’s important to consider how this will impact you in the long run. Once you’ve paid off your debt, you don’t want to be left with an asset that has depreciated and doesn’t hold much worth. Instead, think about how this debt can help you attain financial stability in the future.
Can You Have Good Debt And Bad Debt At The Same Time?
It’s important to only take on debt that you can afford to repay. Otherwise, what may have started as “good” debt could become a problem for your financial situation.
No one ever wants to deal with debt, but it’s important to remember that it doesn’t have to be the end of the world. There are steps you can take to minimize the amount you owe, especially on credit cards. Sometimes taking on debt can be worth it though, especially if it’s for something that will improve your life in the long run.
If I Have Bad Debt, What Can I Do To Protect My Finances?
Bad debt can be a major financial burden, but there are steps you can take to manage it effectively and protect your finances. For example, an auto loan is not necessarily a bad idea as long as you use your car for work-related travel and the terms are favorable. However, credit cards can be very harmful to your finances unless you keep them under control and eventually pay them off.
The good news is that you can take steps to avoid financial ruin. Start by committing to stop using credit cards for purchases. Then, look at your budget and see how you can free up some funds to pay down your credit card balances faster. Once you have a plan, stick to it – the debt snowball and debt avalanche are two popular options.
It’s also important to create an emergency fund so that you don’t have to rely on credit cards in case of a financial emergency.
Final Thoughts
Before taking on more debt, it is important to carefully consider all of the potential costs and benefits. In addition to the principal payment and interest rate, late fees and penalties can add up quickly. It is important to weigh these costs against the value of the asset that will be purchased with the loan. Only by considering all of these factors can you make an informed decision about whether or not more debt is right for you.