Not all debt is created equal, and not all debt is bad. But since debt is also the primary reason individuals find themselves in financial distress, it is essential to understand the differences and nuances involved with different types of debt.

Often we hear the word “debt” and assign a negative connotation to it. But there is debt that financial experts consider good – as long as you acted responsibly when acquiring that debt.

For instance, an example of good debt is the mortgage on your home. When you purchase real estate, especially when associated with your primary residence, you utilize a relatively low-interest rate to acquire an asset that is likely to appreciate over the long term. This debt secures a roof over your head and provides tax breaks. And although some homeowners get caught adversely in market swings, overall, most people can expect to have equity in the home after a period of time.

Another example of good debt is investing in a business or company. Assuming you have the expertise and qualifications needed to run a company, the loan you acquire to get the ball rolling can be beneficial and necessary. A successful business can also provide the necessary funds to pay off other obligations and live without new debt – so your business loan can be a catalyst to a stronger financial future.

On the opposite side of the coin, there is “bad debt” for people to have. It is important to point out that the debt itself may be necessary for a time, and those who have such obligations are not bad people. The term simply alludes to the fact that the debt is not structured in a way that is beneficial to the debt holder and can very quickly get out of control and cause financial solvency issues. 

These debts are typically consumer debt, such as credit card debt. Credit card balances are subject to some of the highest interest rates in existence and, if not appropriately managed, can put an individual in an unending cycle of increasing payments. Having and using a credit card is not considered “bad” in and of itself – it is using the card to pay for items the individual cannot afford and therefore cannot pay off that is harmful. Those who cannot pay off their balances in full regularly are advised to stick to cash or a debit card, saving the credit card for emergencies.

While automobiles are a necessity for most people, auto loans are problematic. The problem lies in the depreciating nature of vehicles – you’ve no doubt heard that your “new” car immediately and significantly drops in value as soon as you drive away from the lot. This means that, unlike a home, your car will never be the same value again – and you will be paying far more than the car’s worth over the life of the loan. We are realistic enough to acknowledge that the vast majority of people do not have the cash on hand to purchase a car without a loan. Therefore it is critical to boost your credit score as much as possible before your automobile purchase and shop for the best loan you can find and obtain. Remember that the longer the loan term, the more interest you are paying – so shoot for the shortest term you can, without crippling your ability to stay within your monthly budget.

Before you take on any new loan – whether “good” or “bad” – be sure to take a hard look at your monthly budget. If you cannot easily fit your new payment into your budget, any minor setback could cause you to start sliding down a slope impossible to recover from. While you can never predict what is coming in the future, you can be thoughtful about how much debt you can reasonably take on without getting yourself into trouble.

If you are currently struggling with your debts and obligations and are looking for a solution, call the offices of Richard V. Ellis. We are here to discuss your situation and help you decide if personal bankruptcy is an option.