Some people will tell you that any debt is bad debt. I’m here to tell you that those people are not only wrong, but they truly lack basic financial knowledge.
The picture/joke above confirms it! Good Debt really does exist! *To the blonde ladies out there, I’m glad you’re all so good at taking jokes.
Good Debt = Any debt where you pay a lower interest rate than you can earn in other investments
Don’t trust me? I’ll give you 30.2 billion reasons why I’m right.
$30.2 billion is the combined profit of Chase, Wells Fargo, and Citigroup banks during the first three quarters of 2010. Why does that matter? Because these banks made billions of dollars in profits by taking on hundreds of billions of dollars in Good Debt.
Most people are aware that a bank borrows money from its customers (deposits in checking and savings accounts, CD, etc.) and lends it out to customers for a higher rate of return than they paid to borrow the money (mortgages, auto loans, small business loans).
Instead of paying back the debt it owes, the bank uses the money it has on hand to invest it elsewhere and make billions of dollars. If the banks can do it, then why shouldn’t you?
If you have a loan at 2% APR (like a student loan), find an investment that gives you a 2.1% return or better. If you have a loan at 7% APR (like an auto loan), find an investment that gives you a 7.1% return or better.
Getting better than a 7% return is a risky bet, and you may not be comfortable trying to do that. I understand paying off loans at 7% before investing (although I probably wouldn’t). However, anyone who pays off a low interest loan with tax benefits on the interest (such as student loans) instead of investing is literally wasting money. You can get a guaranteed investment for 2-3%.
If you are talking to someone who claims “any debt is bad debt,” I recommend you ask them the following questions:
- Do you have a mortgage?
- Do you use credit cards?
- Have you ever borrowed money from someone?
If they answer yes to any of those questions, then they don’t even believe what they are saying. A mortgage is debt. Using a credit card is accumulating debt. Even if you pay off your credit card at the end of every month, you are still taking out a 0% loan for a few days before you pay it off. That, my friends, is debt. Even borrowing money from a friend or family member is debt (although it is almost always a 0% loan).
If you are someone who gets stressed when you know you owe money to someone, and you can’t sleep at night because you can’t help but think about paying off your debts, then you’re going to have a very hard time accepting Good Debt. However that doesn’t change the mathematical fact that Good Debt exists. If you choose to pay off good debt for your own peace of mind, just be aware that the income lost from not investing is real. You are paying real dollars for peace of mind.
If you are one of those people, and you are happy to pay for peace of mind, then I encourage you to do so. Just don’t go around telling people that all debt is bad debt, because it’s not.
There is plenty of good debt in the world. Don’t be afraid of it; embrace it! Use the concepts that make banks billions of dollars in profits to secure your own profits.
I have over $25k in liquid assets, and I still have over $20k in student loan debt. Why? Because it makes sense!
This article was the 4th ranked article out of 62 in the Best of Money Carnival at My Personal Finance Journey!!!