How to distinguish between good debt and bad debt
It depends on the definitions of good and bad, but in personal finance I believe good debt is generally any debt that we use in order to make a profit. The profit doesn’t have to come in the form of money or financial benefits. Borrowing money to attend school, for example, can be profitable for our minds and personal development, because learning tends to make us smarter. 🙂
If we don’t have a lot of savings but are out drinking with some friends anyway then paying with a credit card would be a good use of debt. Using credit is better than asking a friend to pay for our drink, and there’s usually an interest-free grace period on credit card purchases. Even if we decide to maintain a balance on our credit card and end up paying 100% interest over time before finally paying off the balance completely, it would still be debt well used. Surely drinking with friends is a pleasant experience. Otherwise we wouldn’t have done it. So therefore we still profit from the situation by having a good time. If you ask me, friendship is worth more than the cost of one night out, even if we factor in the interest.
Some people avoid using debt because they don’t understand how it can help them be profitable. Being in the dark about how to use debt properly can be costly in the long run. But the best way to remove doubt and risk is through knowledge. Once we learn the ins and outs of how an economic system functions, the uncertainties and unknowns that we once faced will fade away.
Bad debt, to me, would be going into debt without the reasonable expectation to profit from it. 😕 But I can’t think of any situation where someone in their right mind would ever do that, lol.
I actually don’t know of anyone in my personal life that has actually taken on bad debt. Everyone I know who used debt did it for the right reasons at the time. I believe every kind of personal debt can be good debt. 😀 Student loans is an investment in higher education. Credit cards offer instant gratification which adds immediate value to the present, while delaying the payment until later. A car loan can dramatically improve one’s commuting experience.
Obviously debt can be abused or mismanaged. But for the most part people appear to use debt in order to improve the quality of their lives. For better or for worse we live in a society that revolves around debt. Those who don’t learn to control their debts are doomed to be controlled by their debts 😉
Random Useless Fact:
OMG, you’re saying consumer credit card debt is a good thing? Having fun, things for the moment is good to put yourself in debt?
I know of someone who want bankrupt over $10-20k which is ridiculous and their spending habits have not changed. Living from pay to pay. Some people do not know how to manage debt and will spiral out of control once credit is given to them.
Well YOLO so I’d say do whatever is more important and meaningful to you. 🙂 I just got a new credit card and I’ve been using it a lot lately. Some people with debt problems need to address the root of their issues, which is usually an unrealistic expectation of living beyond their means.
Your posts always make me think critically about my own positions on these issues. Mostly because you seem to go against the grain. With the approach in this article, there would be no bad debt. Unless somebody robbed you & you just gave them your credit card & didn’t report it missing.
That would be my thinking. There’s no type of debt that is categorically bad. People usually make decisions based on self interest, so the logical explanation of why people purposefully take on personal debt would be because it’s beneficial to them, 🙂 especially when it takes effort to go into debt since it usually requires a signature or loan agreement. Money and debt are opposite sides of the same coin. Without debt we would have no government currency to buy things and pay our taxes with.
The only good debt is debt which is utilized for production, all other debt is bad (standard residential mortgages, student loans, car loans, etc.). Period.
As for your new credit card usage…I’ll take a wild guess and say you don’t fully understand the entire credit card cycle and its inherent economic damage. If you did, you might not be so proud of your plastic.
You are correct in that people generally have a very difficult time making non-self-interest decisions (acting for the good of the whole/other instead of the individual), as demonstrated by the “YOLO” mentality; one reason for the continual rise in consumer debt.
The YOLO mentality can be contagious. When my friends buy a new car or tv, it makes me want to go out and buy those things as well. My coworkers and I have more consumer debt now than our parent’s generation did.
You can’t define good dept as “dept used for anything that makes you happy” !
I could out tomorrow and put 50K$ worth of fine wine on the visa platinium. I would enjoy the wine… the hangover and the bill, not so much. I could also add 50K$ on my rental morgate to redo the bathrooms all 4 appartments, which would lead to an increase in revenue.
Good dept is dept used to invest in something that will earn more than the interest on the dept.
I agree. Any debt is good if you expect to get more benefits from it than the price of what that debt will cost, not just in financial terms.
So wrong. The return on debt MUST be financial or it is most certainly bad. All you have to do is look at how companies utilize debt to understand that debt is wholly measured in financial gain (loss), and not feel good experiences.
I have a few friends that are 100% against all debt.. They are Dave Ramsey Lovers and followers. I would say for the average person I understand the teaching as they can’t control themselves. I use by debts all the time most often to make money. For 18 months I borrowed $20K on a credit card from my credit union at 1.09 APR and then put it in my checking account with them which was paying me 3.5% APR not a huge gain, but I let it sit there and collect in the background for doing an hour of work with 5 minutes of maintenance every couple months. This is a direct example of borrowing to profit. I have a lot of side jobs and businesses that I work in where I often have to front load an expense for 30 days and then I get paid back the cost plus my profits. A great way to leverage the 30 day grace period waiting for payments. I will admit I look at mortgage debt as ok.. but in the end I hate it. I’m paying the bank ~$2500 a year to service my loan which if I had the $110K… Read more »
That was pretty smart to arbitrage your credit card and checking account interest rates. And using the grace period on credit cards, especially ones that give rewards or points, is a great tool that not everyone can appreciate. I think of my mortgage as good debt because it means I’m not paying rent to someone else to cover their mortgage payments to the bank.
I think I see the point you were trying to get at, but it comes across as if you are saying whatever makes you happy do even if you go into debt to get it….. I don’t think that is what you’re saying but it does come across that way.
I think that debt is a very good thing if used properly, if not so many good multi-billion dollar companies wouldn’t have debt at all. However going out for drinks with friends would not fall under that category, in fact that would be a terrible use of credit card debt, one that I’m guilty of and regretful of. Would my friends have thought less of me if I didn’t go out with them that night? Would we still be friends? If the answer to either of those questions is no then to be honest I don’t want them as my friends anyway.
That’s an interesting point. The terminology I put forward was “profit,” but I can see how some people might misinterpret profitability as happiness. I should have better explained what I meant to say. To me, a profit is any type of gain (not necessarily financially) that is the difference between the amount earned and the amount spent to obtain it. 🙂
I think bad debt does exist. If I don’t think using debt in a particular situation will provide a net benefit or some kind of advantage to my life, yet I still purposefully borrow money, then I would consider that to be bad debt. It’s just rare to see bad debt compared to the use of good debt. When people make poor decisions and face the negative consequences associated with that they usually learn to not make the same mistake in the future, not just for choices around money but in all aspects of life.
[…] on desirable goods and services. I have always been an advocate of spending money, even if it means going into debt, as long as it brings a net benefit to someone’s life. But we just have to make sure […]