Debt. It can sound like a dirty word, especially to people plagued by money woes. But, believe it or not, there are times when debt is considered a good thing.
This “good debt” typically involves “borrowing money for an asset that is increasing in value,” Jim Atkinson, a certified financial planner and principal of Columbus Capital, an independent firm in Albany, Ohio, said in an email. “Typically a primary residence or rental properties fit this description. The interest is generally deductible in both cases, lowering the actual cost of borrowing and the underlying asset increases in value over time.”
Other examples of good debt can include student loans (with the return being a higher salary and improved job prospects) or even low-interest lines of credit you take on in order to invest in stocks or retirement funds.
What Is Bad Debt?
Bad debt — or “stupid debt,” as Atkinson calls it — would involve “borrowing money with no underlying asset.” For instance, “putting the Disney vacation on a credit card, and five years later still making payments when all you have to show are the photos would qualify as ‘stupid debt,'” he said.
Still, it’s important to note that there are times when debt may not be clearly good or bad but simply unavoidable.
“Borrowing money for an asset declining in value but necessary is often the case for many consumers,” Atkinson said. “Few people today pay cash for their automobile — although most would be better off paying cash! — and owning reliable transportation for work and family needs is a part of modern family life.”
And, at the end of the day, whether a debt is good, bad or even neutral is all relative.
“Importantly, the context for the label often depends more on the individual circumstances rather than the type of debt itself,” said Edward Jastrem, director of financial planning at Heritage Financial Services in Westwood, Massachusetts. “For example, residential mortgages are often considered good debt because of the social benefits they provide and tax-deductibility of interest. But an otherwise good mortgage can end up facilitating a series of poor choices: buying more house than one can afford or using home equity in an unsustainable way to fund lifestyle expenses.”
Dealing With Debt
Remember, a debt is a debt, and it’s a good idea to pay down any you’re carrying as quickly as possible. High outstanding balances can do big damage to your credit scores. (You can see where your credit currently stands by viewing two of your credit scores for free each month on Credit.com.) And it can be even harder on your bank account. A person will typically pay $279,002 in interest on credit purchases over the course of their life. (You can calculate the lifetime cost of your debt here.)
Anyone looking to pay down big balances may be able to do so by reviewing their budget for areas where they can cut back, prioritizing payments (most commonly by highest interest rate or lowest balance, though if you’re not sure where to start this credit card payoff calculator can help) and looking into a balance-transfer credit card or debt consolidation loan.
Image: Geber86
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