Tag: good debt
Don’t prolong your state of debt by thinking some liabilities are smart to hold.
Think your low-interest mortgage is good debt? Think again. There is some comfort in believing that being in the position of owing money to someone or some company can in some circumstances be “good.” Suze Orman, arguably the world’s most popular personal finance author and guru, explains the supposed difference between “good debt” and “bad debt.” Mortgages and student loans are examples of good debt, while car loans and credit cards are bad. Some debt, like high-interest loans and credit card debt, are certainly worse than others, but rationalizing owing money to others by calling it “good” is a stretch.
When the public is willing to consider any particular type of debt good, the lending industry is the only winner in the long run. For the benefit of our own personal finances, we’ll prosper more by considering all debt bad and striving to eliminate that debt even if we feel it is good.
Don’t fall into the trap of prolonging your state of debt while holding the idea that these forms of owing money are somehow good. Here’s why “good debt” isn’t all that great.
1. Mortgages. A mortgage on a house is a classic example of a type of debt personal finance experts and real estate agents want the world to be at peace with. There is something to be said for mortgages: the reality is that only a small percentage of Americans would be able to afford to purchase a house without access to a loan. The lending industry and the government have historically made it as easy as possible to own a home. We’re not escaping home ownership debt any time soon.
The deeper reality is that the value of real estate increases at or a little higher than the rate of inflation over the long term, but is much more unpredictable over the short term — the length of home ownership most people experience. Some consider mortgages to be good debt because it allows a home owner to be highly leveraged, in a good position for appreciation, but it is risky.
In addition, the tax advantages to paying mortgage interest are frequently overstated. While most taxpayers see an increased refund thanks to the mortgage interest deduction, the benefit can’t compete with not paying interest at all. We’re stuck with mortgages for now, but there’s no solid reason for keeping them around longer than necessary, as one might do with anything called “good.”
2. Student loans. Student loans are an investment in the future; a bachelor’s degree in hand will significantly increase a person’s lifetime income compared with just a high school diploma. Again, the lending industry encourages taking on unnecessary debt, and colleges and universities are complicit.
It is unnecessary to borrow money to finance a college education. In his forthcoming book, Debt Free U: How I Paid for an Outstanding College Education Without Loans, Scholarships, or Mooching off My Parents, author Zac Bissonnette explains how student loans can be more devastating to an individual’s financial condition than a mortgage. Did you know that bankruptcy can eliminate your credit card debt and your mortgage but your student loan will not be forgiven? Even the government will garnish your social security wages if you default on your student loans.
Bissonnette also shows how there is no good reason to borrow money for an expensive private college or Ivy League university when the quality of education you can receive and your earning potential is matched or bested by an inexpensive, local state college. Reconsider the assumption that you pay a higher price for quality.
3. Start-up costs. Whether starting a business requiring an up-front purchase of inventory or have just graduated college and need to buy appropriate attire for a career, some personal finance experts advise the cash-strapped newbie to anticipate tomorrow’s income and pay for your expenses with a credit card or take out a loan today. This, like borrowing money to invest in something without a guaranteed return, is risky.
While it is often true that success requires taking some risks, consider your options for dealing with the worst-case scenario. Unemployment is still at a high level, and many of last year’s graduates are still out of work with credit card balances increasing. Most new businesses fail.
Even borrowing money to finance assets expected to appreciate like a house, a person’s income potential through education, and a career or business carries risks and in some cases can be fully avoided with smart preparation. You may hear some personal finance experts call these types of debt “good,” but they are far from beneficial. At best, they are like other debt but might help improve your financial condition or quality of life at some point. At worst, however, even this debt can devastate your future if not watched, cared for, and eliminated.