Debt Can Build Wealth — Wait, What?

There is good debt and there is bad debt. Knowing the difference between the two could help you reach financial goals. Instead of digging yourself deeper in the hole or missing out on lucrative opportunities, it’s time to look at how you can make debt work for you.

Good Debt

You need money to make money. What if you don’t have enough money to make the kind of money you want? You take out a loan. That loan turns into good debt when you use it to generate income or to build your net worth. In a nutshell, good debt is an investment that adds value to your life.

A primary example is a home loan. Another good example is a business loan for your small company. And there is also the student loan.

A home loan can help you secure a good, tangible asset. You could live in that home, establish your roots in a community, and build equity by making key improvements to that home. You not only have a comfortable place to live in and will not have to waste money on rent, but also, the equity you build could raise the market value of that property. And you could make a nice profit when you resell the home.

If you do it right, you could use property investment to build your wealth over time.

A couple things you might want to think about though before you dive into this good debt. First, get a home loan only when you know you’re ready to buy. Second, choose a property you know you can afford to pay off. This good debt can quickly spiral into bad debt when you fail to make mortgage payments.

This cautionary advice applies to small business loans and student loans, too. Your small business loan can fund crucial developments. But if it isn’t based on accurate data and solid planning, the debt could ruin your business. Meanwhile, a student loan could give you the right credentials for a career. But education is not the only factor to securing job success.

Bad Debt

When you take out a loan to buy depreciating items, you’ll accumulate bad debt. This means using your credit cards to buy all kinds of disposable goods and making small purchases (e.g., food at the gas station, gas, and movie tickets).

Credit card debt is the worst kind of debt, especially when it’s a high-interest credit card. If you’re not paying your balance, in full or in part, every month, you can rack up thousands of dollars in debt.

Another type of bad debt is your car loan. Cars are essential, that’s true. But they depreciate in value over time. In fact, a car loses a small fraction of its value once you drive it out of the lot.

You can resell the car later on, but at a much lesser price than you initially paid for it. By comparison, reselling a house will leave you with profits, when done the right way.