Good debt versus bad debt

Are you in debt? Most of us are to some degree, but not all debt is bad. Good debt helps you get ahead in life. Bad debt holds you back. So how do you know the difference?

Good debt:

Contributes to a healthy financial picture and helps you plan for the future. Good debt might include a mortgage, an RRSP loan or a student loan. Even your first consolidation loan could be good debt if it helps you get the bad debt under control.

  • It is used to purchase assets that appreciate in value (home) or have the potential to generate income (investments).
  • It is used to improve your future. For example, the education you get with your student loan should help you get a job with a higher income.
  • It may have tax deductible interest.
  • It is offered at lower interest rates.
  • When looking at your net worth, the liability of the debt is offset by an asset. If you have a mortgage as a liability, you also have the house as an asset.

Bad debt:

Does not improve your financial position or future. It’s convenient, which enables you to make impulsive or poor purchasing decisions. Too much bad debt can negatively affect your life and can eventually lead to bankruptcy.

  • It is used to purchase lifestyle items such as a vacation or a big screen TV.
  • It is used for consumption goods or services such as eating out, groceries and fuel.
  • It is used for rapidly depreciating or non-marketable assets, such as a very expensive car or a pool table.
  • It usually comes with high interest rates.
  • When looking at your net worth, the liability of the debt is not offset by an asset, or there may be a depreciating asset. If you finance a vacation, you have debt as a liability but no asset to balance it.

Now look at your debt. Is it mostly good or mostly bad? If you feel like you might need a financial checkup, talk to a Servus financial advisor to create a debt management plan.

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