Owing people money makes me itch...
All debt isn’t bad. It’s essential to start any conversation about debt and finances with that statement. I often separate them into two different categories: good debt and bad debt. Good debt is money you owe for things that can help build wealth or increase income. These are things like a mortgage, business loans, or student loans. Some even consider auto loans as “good” debt. Bad debt does little to nothing to improve your financial situation; Things like credit cards or other consumer debt.
As undesirable as debt can be, both good and bad debt is necessary to establish a solid foundation for your future. Obtaining a mix of good and bad debt, and keeping those accounts in good standing, are extremely important when leveraging your credit for better opportunities. With good credit, you can get things like low-interest rates on student loans for a college education, low-interest rates on a home mortgage for your family, low-interest and high balances on credit lines and business loans for your entrepreneurial journey, and so much more.
Like anything else in life, there is a way that a good thing can turn into a bad thing. Too much debt, good or bad, gives you a high debt-to-income ratio, or DTI. A high DTI can cause you to be denied for things or be approved, but with high interest rates. Statistically speaking, your DTI should remain below 43%, and that’s on the high end. If your good debt puts you over that, you are at an increased risk of not being able to pay the monthly bills tied to your debt. Failure to pay your bills is far more detrimental to your credit than having bad debt.
How much “good” debt should a person have? That answer varies according to your income. As long as you can afford the debt, having the debt can benefit you. When it comes to calculating your FICO score, 35% of that score is on-time payments. If you start paying late or missing payments completely, this will impact your credit profile detrimentally, and it is often hard to recover.
Debt can be a scary topic when your ignorance outweighs the things you know. As always, please do your research when it comes to issues such as your finances and your credit.