Many of you may be wondering what the difference is between good debt and bad debt. First, let's talk about debt. According to Webster's dictionary, a debt is "something that is owed or that one is obligated to pay or do for another, or a liability or obligation to pay or render something."
Is debt good? No, it's not, but we'll use the term "good debt" here to show what we mean. Good debt is something like a mortgage or home equity loan that you can't pay for all at once but have the money to pay back over time. Bad debt is anything you can't pay for all at once. This is usually something you want instead of something you need, or you can't or didn't save up enough money to pay for it, so you take out a loan or charge it.
Credit cards are the most common type of bad debt. You should be careful about how you use credit cards. Using a credit card to buy something and then paying off the balance when the bill comes is the best way to build and keep good credit. This shows the credit card company that you are responsible and pay your bills on time. Cars and personal loans are also types of bad debt. "But I need a car!" I know you'll say. Yes, many of us need cars to get around, but you don't have to buy a new one. As soon as you sign the papers, a car's value starts to go down. It is better to buy a used car and pay for it over a one- or two-year period, or to save up money so that you can pay cash for the used car.
A mortgage and a loan for a business are both types of good debt. Some financial experts may disagree and say that car loans are also a good debt, but I think that anything you can borrow against that has a monetary value is a good debt. A car's value never goes up, so even though it's worth money, it's worth less than what it cost to buy in the first place. Student loans are an exception to what was said above. Student loans are a good kind of debt because they help you get a better education, which leads to a better job that pays more (monetary value).
You can pay off your student loans with the money from that job. Some of you may say, "I can borrow against my credit card to get a cash advance." However, this is still a bad debt because you didn't have the cash up front, and you will be charged a higher interest rate and fee to get the cash advance. Also, the value of cash doesn't go up unless it's in an investment or mutual fund. Making a liability statement is the best way to figure out if you have good debt or bad debt. This statement lists all of your debts and your income. The difference between the two is your total liabilities (your total debt).
Bad debt isn't worth anything, or its value goes down over time. Good debt is worth something and can grow in value over time. Remember that a good debt can turn into a bad debt at any time if you miss a payment or live beyond your means. You should have between 28 and 36 percent of your income going toward debt. If your debt-to-income ratio is more than 36 percent, you should do a financial checkup to see how you can cut costs, lower interest rates, and send more money each month to pay off your debts.
