Good Debt vs. Bad Debt

The use of debt in personal finance is an extremely emotionally driven subject. Many advisers swear by it, whereas many see it as something to avoid at all costs.

As with most tools in finance, debt relies on the responsibility of the debtholder for its usefuleness, or lack thereof. Debt can help or harm, depending on the holder's situation and use cases for the debt under scrutiny.

A responsible use of debt would be to ensure cash flow, using the debt as a down payment or initial investment. There is no shame in using debt to secure yourself future returns. Debts like these are what I consider good debts.

A prime example of this is the use of a mortgage loan to purchase an investment in real estate. A rental property can give you a gradual stream of income that will both pay off the debt, and potentially give you profit. Once the mortgage is repayed, the property becomes an asset that can be rented or sold for pure profit, besides upkeep costs.

The word debt has an inherently negative correlation. When people hear "debt" they think of their credit card statement of which they dare not look at.

Which brings me to bad debt. Credit card expenditures account for most of what I consider bad debt. Credit cards often ascribe too much confidence to the cardholder.

It is the financial equivelant of sweeping your problem under the rug. It puts the expenses away to be dealt with at a later date. This promotes people's willingness to spend on frivolous things, as the cost will not be reflected on their balance until a later date.

In essence, it tricks people into feeling that their money is intact regardless of luxury spending that would otherwise be curved. Accumulating debt spent on luxuries, like loans for a new car is harmful to your financial wellbeing.

People love to claim they are "building credit" by carrying a maxed out balance on each of their cards, or by purchasing a new car. However, these are simply more excuses pushing the problem of bad debt under the rug.

Debt can very easily be used to help get you to where you want to be in life, and it just as easily can bring you down. Maintain mature spending habits with your debt, and it'll free up credit for things that will bring you real cash flow.