An older co-worker claimed that things like student loans - which is the only debt I have - and mortgages are somehow “good debts.” Good for what and to who? After a little research I understand that the good part comes from it being of value, but if you’re trying to secure a loan for something is having good debt better or worse than having no debt at all?
Well for one thing, the interest on a mortgage is tax deductible.
Second, a home loan (as opposed to a car loan, for example) is a loan on an item that is typically appreciating in value. So even though you’re paying interest, you may profit if the house gains value at a higher rate than the interest rate on your loan (particularly after taking into account the aforementioned tax deduction).
A mortage, assuming that you can meet the repayments, is said to be good debt because it allows you to buy a property that will increase in value in real terms. It’s much the same for tertiary education debt that allows you to obtain skills and qualifications that will greatly enhance your future earning capacity. In both cases you create a valuable asset via the debt.
Bad debt is where you borrow to buy an asset whose value diminishes very quickly e.g. borrowing to buy a car or an overseas holiday.
Credit firms look at your credit history to determine further credit worthiness. Part of that is whether you have a record of paying off debts promptly, with no missing payments or late payments.
Some debts are expected. Mortgage and car loans, for example. The vast majority of adults in the U.S. have one or both. Bad debts, however, are those to pay off large medical bills - indicating you may not have money in the future; consolidation loans - indicating that you take out too many loans for your income; or loans to cover damages, suits, or other factors that show you may be a bad risk.
All these calculations go into creating a credit score for you.
Ironically, people who have never had debt and always pay cash may find it more difficult to take out a loan than those who have continual debts but always pay them.
In general borrowing money to purchase a depreciating asset is never a good idea. Many have no choice, or think they don’t, but compounding works both ways.
Car loans and credit card debt are fairly intrinsically “bad debt”, esp. in large amounts that are not in keeping with the holders station in life.
For example, a new car depreciates rapidly as soon as it is driven off the car lot. In the US, a typical five year loan, little or no money down, and the “owner” is upside down for the life of the loan. With credit cards it’s incredibly easy to rack up large amounts of unsecured debt - items that the lender does not want upon default - one slip - a missed payment or two, illness, un-employment - and the credit rating ruined, and ultimately a cascading domino effect results so that any loans in the future will be at a much higher rate of interest. A few youthful indiscretrions can be pretty damn expensive later in life.
The only good debt is one that’s paid off.
Seriously, most people would admit to the “good debt” club a college education [assuming it got you into a career] and a house [assuming the rate is reasonable and a house you can afford].
A modest car loan on a cheap but reliable used car with a good rate [and hopefully a healthy downpayment] would be a good candidate, but probably wouldn’t make it into the club.
I might also toss in the small sort of loans that kids in their early 20s can use to establish credit.
Many times building a credit history can be a chore (at least for my aged bones it was). We ended up being told by a few apartments we applied for that with no history they couldn’t approve us. We ended up buying some furntiture, a couch and a bed, to establish a single month record of having debt and paying it regularly (no kidding) and suddenly worlds opened up for us.
The world is surreal.
Well it’s true that you should always know how you’re going to pay off your debt.
But interest-free student loans are useful, and so is a mortgage, provided you meet the payments.
My mortgage 16 years ago was for £30,000 (on a house valued at £60,000).
At the time that was twice my income.
Now my income is £40,000, the payments are still the same and the house is worth £150,000.
A friend of mine- no, actually a former roomate, we were never very good friends- used to gloat about how he had perfect credit- he paid for everything with a check. It wasn’t even his check, he’d wire his mother the money and she’d write a check. When asked about credit cards, he’d insist “credit cards kill your credit- I’ll never be late with a payment because I don’t have any, writing checks protects me”.
I tried in vain to convince him that without credit cards, or a loan of some sort, he’d have *no * credit, not perfect credit. He used to look at me like I was some halfwit, and get very sanctimonious and condescending. [much like I’m getting now, talking about him]
I’m in the boat you were 15 years ago.
I got my house, and now I’m WAITING for my income to skyrocket while my mortgage stays the same.
Can’t wait for a 1920’s-style Inflation Ray to come along.
Well, the best credit is debt you never have to enter into.
If he avoided borrowing anything from the time you knew him until now, bully for him.
It’s a shame he’d get hosed on car insurance, though.
Good point, but he undertook his master plan to get the best rate on a mortgage when he bought his house. I last saw him about 12 years ago, so I assume he’s attempted that by now.
The grand majority of money in the world comes borrowed from our futures based on the idea that we’ll make it back plus profit. 99% of all money in the world would disappear if everyone finished paying off their debts (I believe.)
So pretty much good debt is, as the others say, debt which is entered into due to having a high probability of creating a profit in the long run.
Good luck!
As you know, the general trend for house prices, income and inflation is up.
But there can be some bumps along the way…
Personally, I’ve always considered “good debt” to be anything where you’re losing less in interest than you’re making in some other way (e.g., appreciation).
For example, let’s say I have $1,000 in cash and I want to buy a new appliance for my house with it. I go to the store and they’re offering 1 year no-payment no-interest terms. I accept the terms, take my $1,000 in cash, and buy a 1-year CD paying 4%. At the end of the year, I cash in my CD for $1,040, pay off the appliance, and pocket the $40. That’s “good” debt.
I dunno, that’s a lot of work for a measly $40 
I’ve known people who do this kinda thing with 0% balance-transfer offers. They apply for a credit card which offers 0% on a balance transfer for a year (or whatever) for up to $10,000 (or whatever). Then they simply write the balance transfer check to themselves and desposit it in a 5% online savings account for a year, pay off the $10,000, and pocket the whopping $500 interest.
Actually, now that I think about it, they have to make minimum payments on the $10,000 every month, so they’ll end up with slightly less than $500.
It’s also “good debt” as you got something which has a long term value for your loan.
Buying designer shoes on your Visa is just the opposite.
I was rather hoping his mom cut him a check for that too.
Now THAT would be a wonderful life!
As an aside, good debt is debt the bank owes YOU!
Assuming that the limit on the card was $10,000, this could play havoc with their credit rating, because one thing creditors don’t like is when you use a large percentage of your available credit.