Good Debt vs. Bad Debt: What’s the Difference?

Debt often gets a bad reputation, but not all debt is the same. While it’s true that some types of debt can cause financial struggles, the right kind of debt can help you build wealth and create a better financial future. The key? Knowing the difference between good debt and bad debt—and how to manage both responsibly. Let’s get started!

What is the Difference Between Good Debt and Bad Debt?

There’s no official dictionary definition for "good debt" or "bad debt," but most people in the financial world agree on a few key traits:

Characteristics of Good Debt:

Good debt is like a wise investment—it helps improve your financial health and often comes with a return on investment (ROI).

• Low Interest Rates: Easier repayments without putting too much strain on your wallet.
• Appreciating Asset or Earning Potential: Adds future value, like investing in a home, education, or business.
• Manageable Payments: Affordable repayments that fit within your budget and financial situation.
• Long-Term Financial Gain: Helps build financial stability, grow your income, and boost your net worth. (Learn how net worth is calculated with a free Net Worth Calculator).
• Tax Benefits: Can sometimes come save you money during tax season.

Characteristics of Bad Debt:

Bad debt is the opposite. It doesn’t improve your financial standing—it often just takes money out of your pocket.

• High Interest Rates: Can make repayments more expensive over time.
• Depreciating Asset: Used to buy things that lose value quickly.
• Difficult to Repay: Monthly payments strain your budget or cause money troubles.
• No Return On Investment: May negatively impact your personal or financial standing without providing any benefits.
• Encourages Overspending: Creates a false sense of financial security, making it easy to rely on borrowed money.

Good vs. Bad Debt Examples

Good Debt Examples:

Also known as “smart debts,” good debts are investments that add value to your life, often paying dividends later.

1. Mortgage

A mortgage is widely considered good debt. Buying a home builds equity, which grows as the property value increases over time. Plus, you might even save money at tax time—learn exactly how much with a Mortgage and Tax Calculator.

2. Home Equity Line of Credit (HELOC)

Speaking of equity, you could increase your property value when you tap into the equity in your home. This is typically achieved through projects like home renovations or upgrades. Just be sure to borrow within your means and focus on projects that offer real returns.

PRO TIP: Curious how much money you qualify for? Use a Home Equity Line of Credit Calculator to explore your options.

3. Student Loans

Investing in education can be a great way to increase your earning potential in the future. However, make sure to use it wisely. Taking out student loans for an underutilized or unaccredited degree isn’t a smart use of borrowed money.

4. Business Loans

Starting or growing a business can mean taking out a business loan, which is an investment in your entrepreneurial goals. When used strategically, the ROI from a business loan can catapult your financial growth.

PRO TIP: Always be clear about your ROI projections before making the commitment.

Bad Debt Examples:

These situations involve expenses that don’t add value and can become financial burdens.

1. Credit Card Debt

Credit cards can be useful, but high balances and soaring interest rates can quickly turn them into one of the worst types of debt—especially when used for purchases that lose value, like clothing or gadgets. The key? Only charge what you can pay off in full each month. This way, you can turn credit cards into a financial asset by building your credit instead of accumulating debt.

2. Payday Loans

Payday loans are among the most damaging forms of debt. They use sky-high interest rates and predatory terms to prey on people facing financial emergencies. Imagine borrowing $100 and owing $200 just a week later—these loans can quickly trap borrowers in a cycle of debt.

3. Auto Loans

Auto loans are often seen as bad debt because cars lose value quickly—the moment you drive off the lot. This means you pay interest on something that’s constantly depreciating. High-interest rates and long loan terms can also make you spend more than the car is worth. Plus, financing an expensive or unnecessary car can stretch your budget without long-term financial benefits.

How to Manage Debt

Debt—whether good or bad—needs to be handled wisely. Here are different methods for keeping your debt under control, along with resources from Academy Bank.

General Debt Management Tips:

• Make Regular Payments: Always pay at least the minimum due on time and aim to pay the full balance whenever possible.
• Maintain Control: Regularly monitor your debt-to-income ratio to ensure a healthy balance.
• Borrow Responsibly: Only take on debt you can realistically pay off.

Smart Debt Payoff Strategies:

• The Snowball Method: Target your smaller debts first and celebrate little wins along the way to build momentum.
• The Avalanche Method: Attack debts with the highest interest rates to save more money over time.

Consolidation Options:

• Debt Consolidation: Combine multiple high-interest debts into one personal loan with a lower interest rate. Use tools like a Debt Consolidation Calculator make a game plan.
• Cash-Out Refinance: Refinance your mortgage to pull out cash at a lower interest rate. This is especially useful for paying off high-interest debt.

Prevention Tip:

• Save for Emergencies: Having 3-6 months’ worth of living expenses in savings can prevent you from needing loans for surprise expenses. Ultimately, this means you will take on less debt. Get started with an Emergency Savings Calculator to set your goal.

Smart Borrowing* for a Better Future

Debt isn’t inherently bad—it’s just about how you manage it. Good debt can open doors to new opportunities, while bad debt closes them and puts your financial health at risk. The key takeaway is this: Borrow strategically, manage responsibly, and always plan for the payback…not just the purchase.

Want to see where you stand financially? Use the handy calculators linked above or find expert advice on our website. Together, we can manage debt the right way!