Oftentimes when I speak with my peers about life goals, a commonly shared goal seems to be “to be 100% debt-free.” Sometimes I see friends celebrate the major accomplishment of whittling down the red and coming out from the hole. I’ve seen people give up the small pleasures in life just to pay off their 30-year mortgage 25 years sooner.
After all, who wants to be indebted to loan and credit card companies? No doubt: being in debt is absolutely not fun. And throwing your money to hundreds and thousands of dollars in interest is arguably worse.
But while it’s a great goal to be debt-free, there are layers to the debt-free aspiration that we may not always dissect.
The Root of All Evil: Money
Money has so much purpose. Money is meant to be spent. This is so you can have the necessities (and maybe even the luxuries) of life. Money is meant to save. This is so you can prepare yourself for future emergencies and large purchases. Money is meant to be invested, so it takes care of you (and your loved ones) in the future.
Is Money meant to help pay your debts? Of course! But so often, aggressive debt-tackling techniques have you sacrificing spending, saving, and investing. You’ll find popular self-proclaimed “financial experts” (who’ve maybe never known real struggle) oftentimes advise you against things like establishing a savings and a retirement account until you’re debt-free. Bad advice, guys, bad advice.
And do not get me started on that whole buying avocado toast and latte fiasco.
Oh, I cringe. I cringe so hard at the risk of putting myself further behind because of the obsessive desire to pay off debt.
But do you wanna hear something else that’s perhaps a bit unconventional? Being in debt isn’t always inherently bad. And believe it or not, top financial advisors will even tell you that there are “Good debts” and “Bad debts.”
So, here’s my take on the two differentiating factors of debt.
When is Debt “Good”
So, if you’re scratching your head at the idea of debt being considered good, that’s perfectly okay. The ways of the world have conditioned you to think and feel like owing money is always bad. It’s not you’re fault you are feeling this way.
I first want to make clear that good debt can also be bad debt if you borrow irresponsibly. However, the general rule of thumb is that if debt has the ability to increase your net worth, if the asset increases in value over time OR helps build wealth—then it’s not a bad debt.
Sometimes we just need a little bit of help in the short run to paint the overall bigger picture, right?
Mortgage Loans
Did you buy a house? Congratulations! You can now party and forget about those struggles of getting in said house. That is until precisely the first of the month following 30 days after closing. The day in which you make your first mortgage payment and come to the realization you now are $300,000 in debt.
While that realization may be scary, a Mortgage loan is actually the number one example of Good Debt.
A home will more than likely be the largest purchase you ever make in life. And that home will increase in value (in the most likely scenario.) Following the current national average appreciation rate, your home could increase in value 14.5% year over year. All the while you pay down your mortgage (slowly, but surely.)
This builds equity which in turn builds wealth.
So, in the scenario, where you have no other debt, make a healthy salary to where you can adequately save, invest, and yes, even spend, go for paying off that mortgage early. Why not? But should you stress about having a mortgage balance? Well, I’d say there are other things to worry about, friend.
Student Loans
Yes, I shed an actual tear as I typed out the title of this subsection. It seems to be some weird delusion fever dream to actually say Student Loans are a “Good Debt.” It is absolutely no secret that the trillion-dollar student debt crisis is a real problem, and that student loans are crippling for many.
But the cold hard truth is that many students absolutely have to borrow money to obtain a four-year degree in these times. The rising costs of college just don’t keep up with the curve of wages earned by entry-level (college student) workers.
(This isn’t the section for Granpa Jim to talk about how he worked summers to put himself through college—take that energy somewhere else.)
And another even colder truth is the fact that if you want to enter the traditional workforce and climb the corporate ladder, you almost always need a degree. Not to mention the earnings potential. The Social Security Administration states that people with bachelor’s degrees earn anywhere from $600,000 to $900,000 more in their lifetime than their non-degree-holding friends. Graduate degree holders earn between $1.1 and $1.5 Million more.
(This also isn’t the section to talk about trades and how you don’t always need a degree to earn, and while you are 100% undisputedly right about that fact, take that energy somewhere else too)
So why are student loans a good debt? Well, because of the fact that they buy you your education that then increases your value as a worker. Education is an investment in yourself. Despite the heavy controversy and politicization around the topic, I stand on the fact that student debt can be a good debt.
Commercial/Business Loans
The last type of good debt I want to focus on isn’t applicable to all, but specifically the 19% of Americans who own and run their own businesses, according to the Washington Post. Entrepreneurship is on the rise in America, with the highest levels since 1999. This is actually thanks to no one other than that lovely life-changing event we all lived through in 2020 and lovingly known as the “pandemic.”
But, I’m getting tangential. Loans that are purposed for your business can increase your wealth and net worth and build capital. This follows the simple Summer rule of “Good debt” falls into that category.
This can be whether you buy commercial property to rent (or later sell), or you need a loan to finance your brick-and-mortar store, just to name a few. As an entrepreneur, you make your money through your business. So, a business loan can be viewed similar to a student loan for self-investment, right?
The Bad Debt
The moment we’ve all been waiting for, right?
When I personally set a goal to “Get out of debt” it was to get out of the bad debt. The debt I so lovingly refer to as “Consumer Debt.” The deb that puts walls up and prevents you from reaching some of your other long-term financial goals. The debt that burdens you.
If you want more brainiac finance-y terms, Bad debt is debt that is used to purchase depreciating assets. Things that won’t make you wealthy or increase your net worth in the future, if you get my drift. This is the debt you should be worried about, my friends.
Credit Cards
We’d be here all day if I decided to argue all the points as to why credit card debt is bad. New studies show that 49% of credit card holders find themselves carrying debt balances month after month. And with the average interest rate on credit cards being around 25% APR, it can be easy to dig yourself into a hole and endless cycle of Credit card debt.
This takes away your ability to put your money elsewhere and purchase other necessities. High credit card utilization can also have negative implications on your credit score, further setting you back. So, I think it’s easy to see the writing on the wall with how dangerous high-interest credit card debt can be.
Auto Loans
Car loans are another example of bad debt, mainly because of how fast cars depreciate and lose their value. Many may even find themselves with negative equity (owing more than its value) on a car loan because of this
However, I serve cold hard facts, and another one is that cars are a necessity for many Americans, with 91.7% of households owning at least one vehicle as of 2021, per Forbes.
Cars also transport you from point A to point B and unless you work remotely, you need a car to get you to and from work thus generating you money. It’s also likely many can’t afford to buy a reliable car outright with cash and are left with no choice but to finance.
So, while a car loan is a bad debt, the item of the loan (the car) can be used for good things and is needed. But, when prioritizing paying off your debts, maybe keep your car loan towards the top of your list.
Student Loans
Wait, am I confusing you? I’m sure you may have even possibly been working on a strongly worded comment due to my previous statement about student loans being good debt. So, here’s a fun twist for you. Student loans can be a bad debt too…but I want to emphasize, can be.
Student loans can be a bad debt when:
- You over-borrow. Avoid this by only borrowing what you need for your school expenses. It’s ridiculous universities and colleges even let you borrow more (what a temptation for an 18-year-old, right?), but I digress.
- You don’t finish school. Let’s say you borrow thousands but don’t finish your degree. You essentially have all this debt and nothing to show for it…and while that’s depressing, you now also have a mountain of bad debt.
- You pick an overly expensive school. I’m not qualified to speak much on this subject, but unless you are looking at certain high-dollar fields (like becoming a Lawyer or Medical Doctor), your degree from your local community college will probably be just as good as one from an expensive college.
Bottom line: whether or not student loans are good or bad debt depends on what you do with the debt and the education it bought you.
Why To Not Obsess Over Paying Down Good Debt
In summary, Strive to be bad debt (consumer debt) free. Strive to carry no balance on high-interest credit cards and strive to not go into debt for assets that depreciate.
Shift your focus from paying off good debt to that of paying off bad debt. And then once you tackle the bad debt, look to meeting your other financial goals first. Work on your retirement account, your other investments and strive to have an emergency fund of at least 3-6 months of living expenses.
Think about it, no savings means no preparation for the other emergencies thus possibly causing you to accrue more debt. This inherently makes the cycle unbreakable. Being short on retirement funds also means you may find yourself living your golden years under financial stress, or even accruing more debt.
And my biggest hot take of this post: by deciding to not buy that dang $5 coffee may make your Monday morning meeting even more unbearable. Yes, being able to spend money on luxuries is an important financial goal too.
Once you find yourself in a good spot with your other financial goals, you can then start to tackle that good debt with force, because after all, no one likes to be indebted—good or bad.
