What is debt?

Debt is the money you owe to someone else. It comes into play when you borrow money, whether it’s through a loan like a mortgage, a car loan, a student loan, or using a credit card. When you take on debt, you agree to pay back the amount you borrowed, along with any interest or fees that were part of the deal.

Debt can be really helpful because it lets you spread out the cost of big purchases over time, making things like houses or cars more affordable in the short term. But it’s important to keep a handle on it. You need to make regular payments to pay it off, and if you don’t manage it well, it can pile up and cause financial headaches, making it hard to get more credit when you need it.

Some people and institutions categorize debt into “good” and “bad” debt. 

Good debt is seen as an investment that will grow in value or generate long-term income. Taking on this kind of debt typically involves borrowing money to finance something that will offer a return over time. The key characteristic of good debt is that it’s an investment in your future, helping you build wealth or increase your income over time.

Here are a few examples:

• Student loans: An education can increase your earning potential, so student loans are often considered good debt.
• Mortgages: Buying a home is generally seen as a good investment because real estate often appreciates over time.
• Business loans: Money borrowed to start or expand a business can be good debt if it leads to a profitable venture.

Bad debt, on the other hand, is borrowing money to purchase depreciating assets or consumer goods that don’t provide a return. This type of debt usually comes with high interest rates and can hinder your financial health. 

Bad debt is often associated with purchases that give immediate gratification rather than long-term financial benefits, leading to spending more money on interest and potentially harming your financial stability.

Examples include:

• Credit card debt: Using credit cards for everyday purchases can lead to high interest charges if the balance isn’t paid in full each month.

Car loans for expensive cars: While a car may be necessary, the value of a new, expensive vehicle depreciates quickly. A high-interest loan for a luxury car, which goes down in value right after you buy it, can be considered bad debt.