The Myth of ‘Good Debt’: How Even Purposeful Borrowing Can Be a Bad Decision
Financial advice is easy to come by these days, thanks to the proliferation of people with opinions on television shows and the internet. And once a particular piece of advice catches on, it tends to spread from commentator to commentator. One of the most popular of these financial “truisms” is that there is a difference between “good debt” and “bad debt.” Supposedly, “bad debt” is to be avoided at all costs, while “good debt” is nothing to worry about. But the truth is that loading up on “good debt” can create all sorts of problems, the same as “bad debt.” Here’s a look at the difference between the two and an explanation of why you should consult your financial advisor before taking on any type of debt.
Examples of ‘Good Debt’ and ‘Bad Debt’
So-called “good debt” is money you borrow for investment purposes, such as a home mortgage or a student loan. This type of debt is often dubbed “good” because you are borrowing money for a specified purpose that should theoretically generate income for you now or in the future. “Bad debt” is consumer debt that doesn’t generate revenue or investment gains and carries a high interest rate, such as credit card debt.
The Myth of ‘Good Debt’
While the idea behind “good debt” is that it will pay for itself in the end, this isn’t always the case. Student debt is a great example of this. Although it’s often wise to invest in yourself via an education so that you can get a better job and lead a better life, things don’t always work out that way. Some students have taken on such huge amounts of debt that they’ll spend years, if not decades, of their lives simply paying back their student loans. While they may be earning higher salaries in better-paying jobs, their loan payments consume the additional income they earn.
How Bad Is the Student Loan Situation?
The current student loan debt situation in America is nothing short of a crisis. Over the last 17 years, student debt has skyrocketed from 21% of GDP to a whopping 79%. Currently, about 43.2 million student debtors owe an average of $39,351 each, and the ever-growing Federal Loan Portfolio now tops $1.56 trillion.
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How About Home Mortgages?
Home mortgages are another commonly cited example of “good debt,” but some borrowers have the same problem as those weighed down by student loans. Most Americans need a mortgage to buy a home, and for many borrowers, things work out. However, a home mortgage isn’t exactly a sure thing. Many borrowers overextend themselves, taking out the largest mortgage they get approved for and then finding out that they can’t keep up with their payments. Others buy at the peak of the market and end up owing more than their house is worth. In cases like these, even “good debt” can be devastating.
The Bottom Line
No one’s going to argue that taking out a large amount of credit card debt is better than using a mortgage to buy a home or a student loan to get an education. But that shouldn’t obscure the fact that all debt is an obligation that needs to be repaid, whether it’s “good debt” or “bad debt.” The bottom line is that any debt that you can’t afford is “bad debt,” even if it’s used for a good purpose. For this reason, you should always consult with a financial advisor to discuss whether or not a debt you want to take on is good or bad for you personally.