Good Debt vs. Bad Debt

People often assume that all borrowing is bad; however, debt is not automatically good or bad. Think of it as a financial tool that can either help you build long-term stability or create long-term financial stress. Whether a debt can be categorized as “bad” or “good” mainly depends on what it pays for and whether it improves your future finances.

• Debt can be “bad” when it is used to buy items that depreciate quickly or are consumed immediately while interest continues to accumulate. Examples include putting a vacation on a credit card, financing expensive clothing or non-essential upgrades, or using “buy now, pay later” for items you could not afford upfront.
• Debt can be “good” if it helps you acquire an asset that may grow in value or directly increases your ability to earn income. Examples include a mortgage for a home, a carefully chosen student loan for a high-return career path, or a loan to start a viable business that has the potential to increase your future value or earning power.

There are also others that are in the “gray zone.” For example, cars usually lose value, but you may need one to get to work and earn income. For those that are in the gray zone, such as auto loans, a sensible approach would be to keep the loan small and the term short (using the 20/4/10 Rule).