/ Published 1:30 PM EST / Narmetha Karunanandam

Here’s how to introduce “good” debt into your life

While most of us probably can’t live entirely debt-free, there is a difference between accumulating good, bad and neutral debt. Yes, by definition debt is typically money that is borrowed BUT, racking up debt that’s considered “bad” over “good” will cost you in the long-run. According to Equifax, the average debt has increased to 1.14% year-over-year.  A Nilson Report shows that the average American household pays a total of $1,332.80 in credit card interest each year, or what is considered “bad” debt. On average, car and installment loans or “neutral and good” debt, respectively, has also increased significantly. So what does it mean to have good, neutral or bad debt? The below examples will help you better understand the differences:

THE GOOD:
Borrowing money to pay for items you NEED that appreciate in value. This type of debt is tax-deductible and can be used to grow your assets. In times of emergencies, good debt allows you to leverage your wealth to give you financial stability and security. Here are some examples of good debt:

  1. Installment loans (e.g. mortgage)
  2. Student loans
  3. Investment loans

THE BAD:
Borrowing money to pay for items you WANT that depreciate in value. These types of debt drain your cash flow and reduce your net worth by growing against you.  There’s nothing wrong with treating yourself every now and then, but the key is to evaluate your debt-to-income ratio. If you see a pattern of purchases that you’re paying interest on for a long period of time, it’s time to re-evaluate. Here are a few examples of bad debt:

  1. Credit card debt
  2. Pay-day loans

THE NEUTRAL:
Debt that falls into that gray area, between the good and the bad. These types of loans neither help you grow your assets or grow against you. In order to keep neutral debt closer to good debt, the key is to secure loans with low interest rates. Here are some examples:

  1. Car loans
  2. Debt consolidated loans

Debt can be inevitable, whether it’s for the house you want to settle down in, the car we need to drive our kids around in, or the piece of jewelry you’ve had an eye on, it’s important to understand the difference to keep up with financial health and success. Although, the best alternative is to accumulate good debt, it’s important to sort out your financial health before making any sort of investment.

If you need help understanding what debt bucket your expenses fall into, contact one of our advisors today.


Sources:
https://www.debt.org/advice/good-vs-bad/

http://www.investopedia.com/articles/pf/12/good-debt-bad-debt.asp