Debt: The Good, The Bad & The Ugly
“Many a man thinks he is buying pleasure, when he is really selling himself to it.”
What comes to mind when you hear the word “debt”?
Depending on the messages you’ve heard and the beliefs you’ve formed around debt, the answer to this question can vary across an entire spectrum of good to bad to ugly.
Most people, at some point, have utilized debt in order to move forward.
And many people, at some point, have found that debt was the thing keeping them from moving forward.
So what gives? What's the differentiator in each of these outcomes?
Let's discuss.
Good Debt
“Good” debt is typically associated with large purchases that have the potential to increase your net worth (your net worth is the total sum of everything you own that has value -- your assets -- minus everything you owe that has value -- your debts).
Given this definition, then, taking on debt in the form of a mortgage, in order to buy a home, is an example of a debt that many people consider “good.”
Another example might be taking out a Business LOC (line of credit) in order to start and/or expand a business.
In both of these scenarios, the idea is that you would be purchasing an item (home) or items (building, furniture, business assets), that you expect will have a HIGHER future value.
So for example, let’s say you buy a home for $350,000 today and take out a loan for the whole amount (not realistic in today’s environment, but let’s go with it for illustration purposes). Let’s say you secure this loan at a 5% interest rate for a 30 year term, which means you are ACTUALLY paying $676,395.24 to buy this home, assuming you made all your monthly payments exactly and on time over that 30 year period.
While this may seem like a HUGE overpayment on a home worth $350,000 at the time of purchase, keep in mind that, assuming a typical average annual appreciation rate of 3-4%, a $350,000 home could potentially increase in value to between $1,050,000 and $1,400,000 over 30 years, depending on market conditions and location factors (note: this is just an estimate and actual appreciation could be higher or lower).
So, if (based on the hypothetical situation above) the ACTUAL cost of a $350K home was, after 30 years of mortgage (debt) payments, closer to $675K…BUT the value of that home at the end of those same 30 years was somewhere between $1.05 and $1.4 million…you could still, in theory, consider that a “good” debt decision.
Bad Debt
On the other hand, there are also “bad” debt decisions. And, as you may have guessed, these tend to fall into the category of purchases that have a lower (sometimes ZERO!) future value.
An example of this might be swiping a credit card to pay for an expensive dinner – not because you want the points/perks, but because you don’t currently have the cash in your bank account to cover the meal. As soon as you stand up from the table, there is no ability to recapture or resell the financial value of that dinner – however delicious and enjoyable it was.
Conversations about the monetary value of experiences tend to strike a nerve with people, so let’s pause for a moment and talk about that.
Are there reasons - potentially good ones - for using credit cards to purchase experiences (for example, family vacations), that you may not be able to afford all at once?
To that I answer:
ABSOLUTELY YES!
…SOMETIMES.
(It Depends).
😅
Let me try to explain.
Gray Zone Debt
Over the last several years, my husband and I have been working our way up from smaller, more local ski resorts, testing out the slopes with our girls who don’t have a ton of experience with snow adventures. All had gone well, and so last year we felt we were ready to fly to our next ski destination.
With flights comes the extra costs of airfare, a rental car, and gear that we opted to rent instead of borrow, to help with travel logistics. In other words, this was not only a more difficult trip to plan, this was also a more expensive trip to plan.
Putting everything together, I estimated the cost of the trip would be about $3k upfront, something that I knew we couldn’t do all at once without dipping into savings, which could have adversely affected us if an actual emergency came up while our savings were depleted. (Side note: the fact that we *could* cover it through savings was and is also an important factor in deciding whether or not to utilize debt to cover a purchase.)
So my husband and I sat down and mapped out purchasing decisions, based on the monthly amount we could both throw at this trip, without *needing* to dip into savings. Between plane tickets, lodging, rental cars, rental equipment, and lift tickets, we found a way to buy a little at a time along the way, making sure that we had all but food, gas and souvenirs covered prior to the trip (something we would split/cover with that month's cash flow).
We THEN used credit cards to purchase each of the agreed-upon items, one chunk at a time, faithfully paying off the balance the following month, then moving onto the next item. By doing this, we were able to utilize credit cards to make advance purchase decisions while also pre-paying for as much of the trip as possible.
When the time arrived, we were able to enjoy the trip free of financial anxiety and with the ability to live fully in those moments with our girls. It’s a beautiful memory that, at least in part, was made possible by debt.
I consider this type of debt, "Gray Zone Debt."
For some people and with some situations, it's helpful and increases an aspect of wealth (though -- important to add -- not always a financial increase).
For others, it's not manageable and leads to spending decisions that stress their cash flow and other areas of a life.
Just as with all other things that live in the gray zone, you have to know and respect the boundaries you need in order to maximize the opportunity of these spaces.
A Recap So Far:
Good Debt = Has the potential to INCREASE your future net worth
Bad Debt = Has the potential to DECREASE your future net worth
Gray Zone Debt = Has the potential to increase OR decrease your future net worth and/or other areas of "wealth" (family, social, health, etc), depending on your ability to manage it wisely
And now it’s time to talk about “Ugly” Debt.
Ugly Debt is the kind of debt that, when you pull back the curtain, the person or institution behind it knows that you are at risk of making unwise financial decisions, and is intentionally preying on your emotions and behaviors in order to profit off you.
Examples of this include high interest rate debt, unmanageable debt, and most buy-now-pay-later forms of debt.
High interest rate debt is the trade-off that credit card and lending companies make in order to service people with lower credit scores. If someone has a history of delinquency with regards to debt payments, a company might still offer them the opportunity to purchase the item, but with a higher interest rate. The company is taking on more risk, so they charge more...seems reasonable, right? While logical, what it effectively does in many cases, is put further financial strain on someone who is already struggling. The eventual outcome of these scenarios is typically...ugly.
Unmanageable debt, on the other hand, is more akin to a boulder, rolling down a hill, collecting moss and other items as it gains momentum. The further it goes, the faster and larger it gets. This kind of debt is stressful, and has been linked to mental health issues, which isn’t surprising when you consider how many areas of life that unmanageable debt can be intertwined with: marriage and other relationships, job security, parenting responsibilities, and legacy desires. These areas are weighty, in and of themselves, a feeling that is multiplied by the weight of unmanageable debt. There are many businesses and individuals that stand ready to take advantage of people who feel trapped under the weight of unmanageable debt.
If you find yourself feeling lost or hopeless with how to crawl out from under the weight of unmanageable debt, here are two things to keep in mind
1) There is ALWAYS a way forward
2) Consider seeking advice from multiple sources, so that you can move forward toward what is truly best for you
In conclusion, understanding the various types of debt—good, bad, and ugly—can empower us to make more informed financial decisions.
Transparently, I’ve had my fair share of past experiences where I used credit cards in the name of “FOMO,” and ended up with revolving debt far beyond what I was capable of managing. While I’m not proud of these decisions, they have taught me a lot about the boundaries I need to have around credit cards and debt use, in order for me to use debt to MY advantage, instead of the other way around.
As Benjamin Franklin wisely noted in the quote above, many of us think we are buying pleasure, but the reality -- at least in some situations -- is we are in danger of diminishing our future selves, and our future earnings, for the momentary pleasure of having something we want now.
Whether it's taking on a mortgage, a business loan, or using credit for experiences, the key is in knowing the difference between debt that enhances your future and debt that diminishes it. By being mindful of how we manage debt, we can avoid the pitfalls of unmanageable, predatory financial traps and instead use it to build a future that supports our goals, values, and peace of mind.
The power to make debt work for us lies in knowing how and when to use it wisely.
~Jess
P.S. Do you have a debt story you'd like to share? If so, I'd love to hear it! You can send me a message here - I read every single response 🙏
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