Difference between Good Debt and Bad Debt

A loan is a significant part of our lives. Most of us just cannot simply afford to pay the full price of some of the necessities. However, a loan is generally bad, but it does depend on its usage.

There are good and bad types of loans. A good loan would be improving your life while a bad loan is to fulfill your desires.

The most sensible advice is to keep borrowing to a limit, don’t go over your means to buy something you simply cannot afford. Here are two examples of good and bad debt.

Good Debt

Good debt is debt that would help improve your standard of living or generate wealth for you. Any debt that would have a positive financial impact on your well-being is considered good.

Education loan

Education loan is considered a good loan because it will contribute to your earning potential. Better educated people can find higher-paying jobs that make up for the loan. Many people don’t have the money needed to cover their educational costs, so an investment in yourself with a degree would pay for itself within a few years.

However, a degree should be chosen carefully as this loan could quickly turn bad if you don’t get a job right after graduating. Choose a career that is high in demand to really make use of the loan.

Real Estate loan

There are multiple ways to own real-estate and usually, it is considered as good debt because it helps to build more wealth. What great about real estate is that it appreciates in value over time. Especially, if the city sees growth over time, the property will be worth much more than the money that was initially invested.

For example, an average house in Toronto, Canada, after the financial crisis was worth almost $400,000. As of 2018, the average house price increased drastically to almost $800,000, this was primarily due to the population growth in the area

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Bad Debt

A loan that would lose its value or not improve increase your wealth. Any loan that is merely a want instead of necessity is a bad loan. 

Car loan

Cars are an important part of our life, and it is difficult to commute without them especially if you don’t reside in a busy city. Here is the thing about cars, they are an expensive asset that depreciates.

New cars are expensive, and they are known to lose value the moment they are driven from the dealership. In addition, newer cars lose more value every year than used cars.

If you are shopping around for a car, consider used cards that are a few years older. Cars that are a few years older already lost the brand-new car value and each year’s depreciation value, so you don’t have to lose money.

Credit card

Credit card debt is the worst form of debt yet the most common. Credit card companies charge a very high-interest rate which makes it difficult to pay off.

The credit card interest rate on average is around 22%, which can add up very quickly. For example, if you have a $500 balance on your credit card that you forgot to pay, you will end up paying $110 on top of the $500 you borrowed.

This can quickly turn into a significant sum if you max out your credit card to pay off for a sudden expense. On a $3,000 loan with a credit card, you would end up paying $3,660 in total. It is highly recommended to pay your credit card in full to avoid paying for any interest.

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Take away point

It doesn’t matter what kind of debt you have; you still must pay it off on time and with interest. Debt cannot be categories as good or bad debt because many factors should be taken into consideration.

For example, education loans are generally considered as good loans because they help you get a better career thus a higher paying job. Unfortunately, it doesn’t always work in that way. Many graduates have a degree but are forced to work a minimum wage job because they can’t find a job related to their field of study.

Lastly, ask yourself if the loan you are taking is really needed. If you are considering taking a student loan for further studies, take the time to research the outcomes properly so you can execute an informed decision.