What is the Difference Between Good and Bad Debt?

There are some people that feel all debt is bad and others think none of it matters, but actually there are some good and some bad debts. It is wise to have an understanding of the differences between them and then you will be able to decide more easily as to whether to take on certain types of debt or not.

What is Good Debt?

Good debt cannot be identified as a certain type of loan or borrowing, but is more about the reasoning behind borrowing the money. For example, if you are borrowing money to buy a new car as you have to drive to get to work and your car has been written off, then this would be considered to be good debt. This is because you need the car to earn money. It could also be using a mortgage to buy a house, when the mortgage repayments are lower than the rent you are currently paying, so you will be better off.

There are also considerations to be taken with regards to the loan though. It is important to make sure that you compare the different types of loans and pick the one that is most suitable. Only borrow as much as you need and resist temptation to borrow a bit extra and treat yourself as this will be expensive. Once you have settled on a loan type, you will need to compare the different lenders. You want to find the one that offers you the best value for money and therefore you will need to think about what you are looking for in a loan and a lender and which comes closest at the best cost. Lastly, it is really important to find out how much you will be expected to repay and when. You need to make sure that you are able to afford those repayments and that even if interest rates go up and the repayments increase or if you have other expenses rise, that you will still be able to repay them.

What is Bad Debt?

Bad debt is pretty much the opposite of good debt. This means that when you borrow money to pay for unnecessary luxury items. Perhaps to buy yourself a second car for the weekends when you already have a perfectly good one or buying new clothes when you have a wardrobe full of suitable outfits that all fit you anyway. It can feel nice to have a treat, but if you borrow money to do it then this will cost you a lot of money.

If you quickly pick a loan without carefully choosing the right one for you and without comparing the different lenders then this could mean that you will end up with something unsuitable. Therefore, this would be a bad loan as would borrowing when you have not checked if you can afford the repayments or if you know you will struggle to repay but you borrow anyway.

Sometimes, it is not really that easy to decide whether your borrowing will be good or bad debt. However, the fact that you are considering it is a really good sign that you will end up doing the right thing. It is good to be really focussed on those repayments and making sure that you will be able to manage them even if they go up. Then, even if your reasons for borrowing are not justified, at least you will still be able to repay the money that you have borrowed. Also think about what benefit you will see from the item that you are buying, whether it will benefit you financially, whether you need the money for an emergency or whether it is just about personal pleasure and this should help you to decide more easily.

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