Good Debt vs. Bad Debt: Learn the difference

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Good Debt is different from. Poor Debt Be aware of the distinction

Good debt can help you attain your goals, but bad debt is costly and could cause them to fall off.

by Sean Pyles Senior Writer | Personal finance and financial debt Sean Pyles leads podcasting at NerdWallet as the producer and host of NerdWallet’s “Smart Money” podcast. The show “Smart Money,” Sean talks with Nerds from the NerdWallet Content team to answer listeners’ questions about personal finance. With a focus on shrewd and actionable money advice, Sean provides real-world guidance to help people improve their financial lives. Beyond answering listeners’ money concerns on “Smart Money” Sean also interviews guests outside of NerdWallet and also creates special segments on topics such as the racial gap in wealth, how to start investing, and the history of student loans.

Before Sean lead podcasting at NerdWallet, he covered topics that dealt with consumer debt. His writing has been featured throughout the media including USA Today, The New York Times and other publications. When Sean isn’t writing about personal finance, Sean can be found digging around his garden, going on runs , and taking his dog on long walks. He lives at Ocean Shores, Washington.

Aug 5, 2021

Editor: Kathy Hinson Lead Assigning Editor Personal financial, credit scoring, debt and money management Kathy Hinson leads the core personal finance team at NerdWallet. In the past, she worked for 18 years at The Oregonian in Portland in positions such as copy desk chief and team director of design and editing. Previous experience included writing copy as well as news editing for various Southern California newspapers, including the Los Angeles Times. She received a bachelor’s degree in mass communications and journalism from Iowa’s University of Iowa.

A majority of the products we feature are provided by our partners who compensate us. This impacts the types of products we write about and the location and manner in which the product is featured on the page. However, this doesn’t affect our assessments. Our opinions are entirely our own. Here’s a list of and .

Before you take on any kind of debt, think about whether a car loan or new credit card can help you meet your financial goals or hinder them to achieve. The debt you commit to and the amount and cost, could make the distinction between good and bad debt.

Credit cards, for instance, is a means to financing large expenses and earning reward points. If not handled properly the credit card debt that comes with high interest rates can get out of hand.

Here are some general guidelines for good debt and bad debt and what to do if you’re facing excessive debt.

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What is good loan?

Low-interest debt that helps you boost your income as well as net worth, are examples for good debt. However, too many of any kind of debt — regardless of the opportunities it could create can result in bad debt.

Medical debt, for example isn’t a neatly categorized in either the “good” and “bad” debt categories. It’s an expense that’s largely insurmountable, and usually doesn’t come with the benefit of an annual interest. There’s a chance .

Student loans

Typically , they are viewed as an investment for your future and future, students loans tend to offer lower rates of interest, especially if they’re federal student loans.

The general rule is to aim for your student loan repayment to equal your projected after-tax monthly income a year after graduating. If you expect to earn $50,000 per year, the loan limit is $29,000.

Action: To deal with overburdened student loans take a look at options the possibility of refinancing and income-driven repayment plans.

Mortgages

Likely the biggest financial decision you’ll ever make, a loan is the way to homeownership.

The guideline is to be aware before you shop and limit a mortgage to 36% of your annual income.

Take action: Downsizing,, or changing to a cheaper area could make housing costs easier to manage.

Car loans

For many, cars are vital to daily life.

Guideline: Keep total auto costs, including your car loan payment, . Loan terms should be four years or fewer, usually with 20% down.

Do something about it: or trading in your car for a more expensive one can help you reduce car expenses.

What is bad debt?

The burdensome debts that eat away at your financial standing are classified as bad debt. For instance, debts with high or variable interest rates, especially when used for expenditures that are discretionary or lose value.

Sometimes, bad debts are just bad debts that have gone wrong. Credit card debt is an illustration that shows this. If you’ve got a credit card with high interest and pay it off each month, no problem. However, if credit card debt accumulates, you could be in trouble.

High-interest credit cards

A high interest rate, such as those greater than 20% can increase the cost of debt.

Guidelines: If you’re not making progress on paying off your debts with credit cards despite paying all you can each month, it could be a sign you’re facing issues .

Take action: If you can manage your spending Consider a plan where you pay off your smaller debts first. A can make credit card debt less costly however, you’ll need to have good credit score to qualify for. If not, a credit counseling service from an agency for credit counseling that is non-profit might be a good alternative.

Personal loans to fund discretionary purchases

The idea of taking on credit for costs like a vacation or new clothes can be an expensive habit.

Guideline: Personal loans can be a viable option if you have a specific purpose you want to achieve, for instance .

Make a move: If you’re facing the cost of a large personal loan and you’re not sure if you’re in a position to .

Payday loans

They are a type of debt that could turn into a toxic one: They typically have rates of interest as high as 300% which could make them unaffordable immediately. They are short-term, low-cost loans designed to be paid through your next paycheck.

Guideline: Financial experts caution against payday loans because borrowers can easily fall into the debt cycle.

Make a decision: Think about alternatives like borrowing from a credit union or asking your family members for help.

Author bios: Sean Pyles is the executive producer and host of NerdWallet’s Smart Money podcast. His work has been published in The New York Times, USA Today and elsewhere.

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