Debt: The Good, the Bad, the Ugly

It’s true that DEBT is a four-letter word, but that doesn’t mean it’s a bad word every time it’s used.

With the exception of a small portion of the population, most of us won’t have enough cash to pay for some of life’s most expensive, and most important, purchases like a home or your child’s college education. While debt is often seen as a bad thing, there are occasions when buying something over time has its advantages. But it’s important you be crystal clear on the difference between good debt and bad debt.

Good debt is an investment in the future, either increasing in value or generating income over time.  that will grow in value or generate long-term income.

Let’s consider higher education expenses. The average in-state tuition for a public university is about $21,000 – per year. And if your child has their eye on a private or tier-1 school, the cost could nearly triple. Compare that against the average college savings American families have accumulated – only about $18,000 total, according to student loan company Sallie Mae.

Of course, for education expenses, you should first look to personal savings or a college savings plan such as a 529 Plan, which allows savings of up to $500,000 tax free and allows tax free withdrawals for qualified education expenses like tuition, housing and textbooks. But if the cost of college outpaces your savings, a student loan is an example of good debt.

Why? Interest rates for student loans are typically very low compared to other types of debt. The bigger positive is that a college education is an investment with a strong probability for return.  You’re increasing your value to an employer, thus improving your potential to earn wages that will help you retire any education debt fairly quickly and start building a solid financial future.

Here are some ideas to consider around debt:

Borrow money for things that provide long-term value. As we’ve discussed, a college degree is a great example because you can quickly recoup those costs through higher lifetime earnings. On the other hand, paying for your vacation on a credit card might bring some great memories, but you’ll be paying for that trip long after you return home (and, because of interest charges on your outstanding balance, it’ll cost you more, too).

Speaking of which, …Interest fees are silent robbers. They add up quickly and the more they add up, the greater the burden it puts on you to keep up. The easiest way to avoid high interest fees is to pay your balances in full every month. If you can’t do that today, start by paying as much as you can toward your high-interest debt – absolutely more than the minimum payment.

Consider ways of lowering your borrowing costs. It’s not always feasible to completely avoid fees but you do have options to limit the hidden costs of debt. Consider finding a credit card with a lower interest rate than your current lender. Many credit card companies offer a short-term zero-interest period on rollover balances. This allows you to pay off your higher-interest balance using a new credit line that, at least initially, will save you money on interest charges. But you have to be smart about using this to your advantage. Oftentimes when those introductory periods end, the interest rate skyrockets. If you’ve rolled over a balance but done little to pay that down, you’ve wasted an opportunity. Worse, if you open a new credit line and then add expenditures back on your original card, you’ve worsened your financial situation.

One way to really take ownership of your finances is to be your own boss. Owning a small business allows you to determine how much money you want to make, based on your effort. Taking out a small business loan has its risks, to be sure, but the upside is creating an income stream that is steady, has potential to grow, and allows you to work at something you’re really passionate about.

If you’re on the precipice of buying a home, consider what type of mortgage best suits your goals. If you plan to sell your house relatively soon, consider an Adjustable Rate Mortgage. These typically start with a lower interest rate that can increase over time, depending on the market. That’s not a great solution if you plan to stay in the home over a long period of time as your risk for a rising monthly payment is increased. In that case, look for a fixed-rate mortgage that may have with a slightly higher interest rate, but the pressure eases over time as your income grows and your loan balance shrinks.

Your home could also be a great lender! If there is equity in the value of your home, you might consider a home equity loan to consolidate the rest of your debt. Home equity lines are typically offered at a much lower interest rate than credit cards and that could add up to real savings. Remember, though, that your home is your best investment, so don’t jeopardize that by using home equity to fund a new car or some other commodity with little to no lasting value.

If you’re already swimming in debt, whether it’s “good” or “bad” debt, stop adding any more debt to the pile. Put your credit cards in a secure but hard-to-reach spot at home. Not having those cards handy forces you to consider if what you are purchasing is a “must-have” or a “nice-to-have.” In most cases, it’s the latter and you can avoid the expense and the second-guessing that often follows impulse purchases.

These are examples of good and bad debt; now for the ugly: Avoid payday or title loans. In both cases, a short term financial boost is vastly outweighed by fees, restrictions and other hidden details that can wind up costing you far more than your loan.

High levels of debt can seem overwhelming but there are resources to help. One solution might be to call in a debt repayment specialist. Vantage Acceptance offers expert advice on debt consolidation and repayment plans. We’ll work with your creditors to establish a favorable repayment plan and you make one monthly payment to us which we then send along to the credit card companies. In most cases, we’re able to negotiate a reduction or “settlement” of your outstanding balance and retire 100% of your debt in as little as 2 years. You can reach one of our expert debt managers by calling (800) 725-0214.