There are many different types of debt; some would argue that all forms of debt are bad, whereas others classify debt into two categories; good debt and bad debt. We take a look at the difference between these two types of debt and how you can tell them apart. We also have some tips for dealing with bad debt when it gets out of control.

What is good debt?

Good debt is borrowing money that helps you increase your net worth in the future. Some large ticket items, such as buying a home, are not affordable to the majority of people without borrowing money from a bank. However, taking out a mortgage is considered good debt as property is an excellent way to increase your overall net worth. Many homeowners will buy a property with a mortgage and work towards paying that mortgage off whilst living in the property. Their debt is managed through their mortgage payment plan, and they’re able to make a profit when they sell the property in the future. Another example of good debt is education. Student loans are expensive, but they’re considered an investment and a way people can improve their skills to make more money in the future. This classifies them as good debt; student loans are automatically paid from wages; therefore, by being employed, the person with the student loan is actively working towards paying off their debt.

What is bad debt?

Bad debt is generally specified as borrowing money to buy items that will go down in value. This includes cars, clothes, electronics and other consumable items. It’s very unlikely that you’ll be able to make money on these items if you sell them again in the future. They will depreciate in value from the moment you buy them. That’s not to say you shouldn’t borrow money to buy a car or other consumable goods. When bad debt is minimised and managed correctly, it can be a good way to get things you need before you have the available money. However, the key here is to ensure you limit the amount of bad debt you have and borrow from reputable lenders with low or no interest rates. There is a sliding scale when it comes to classifying bad debt; interest rates and affordability are important considerations. Always make sure you can afford to pay back the debt to avoid getting yourself into a situation where you don’t have the income to pay your debts back.

Debt solutions

Some solutions can help if you have uncontrolled debt that you’re struggling to repay. Debt consolidation, IVAs, debt relief orders, administration orders, and bankruptcy are all options you can use to get yourself out of spiralling debt. Get in touch with a debt advisor or look up each individual debt solution before you apply for an IVA or sign up for a debt consolidation service. It would be best if you found a debt solution that will work for your unique situation. This will depend on a number of factors, including the level of debt and the type of debt you have. A specialist debt advisor or debt charity can help point you in the right direction.

Debt warning signs

There are some warning signs to look out for when it comes to managing bad debt. If you find yourself living out of your overdraft or being unable to pay your bills on time, you may need debt management help. In addition to these, if you're struggling to sleep or find yourself constantly worrying about your debt and how you’re going to manage to pay it back, a finance review might be in order. It can be very easy for bad debt to spiral out of control and leave you in a situation where you can’t afford to pay back the amount you’ve borrowed. You may even go to extremes, such as taking out payday loans to try and pay back your debts. This, however, is likely to get you into more financial trouble. The best solution, if you're facing spiralling debt, is to reach out and get help from a professional. Once you have faced the issue, you can take steps to begin the process of getting yourself out of debt.

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Good Debt vs Bad Debt