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Good Debt vs Bad Debt — What’s the Difference?

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Published 1 year ago

Good Debt vs Bad Debt — What’s the Difference?

Are you considering taking out a loan, but aren't sure if it's a good idea? 

Maybe you've heard conflicting advice about debt, and aren't sure if it's something you should avoid at all costs, or if it can actually be a useful tool. 

Well, you're not alone. Many young adults in Malaysia are navigating the world of borrowing and lending for the first time, and it can be confusing. The good news is, not all debt is created equal. 

In this article, we'll be discussing the difference between good debt and bad debt, so you can make informed decisions about your finances. 

What is Good Debt?

Alright, let's talk about the "good stuff" - good debt.

Yes, you read that right. Not all debt is bad, and some types of debt can actually be beneficial in the long run. So, what exactly is good debt?

Good debt is like that friend who always has your back and helps you to invest in your future. It includes loans for things like education, housing, and business ventures

Unlike bad debt, which leaves you with nothing to show for it except regret and a big fat interest bill, good debt can actually provide you with something tangible that can increase your earning potential over time.

For example, taking out a student loan to earn a degree can help you land a higher-paying job in the future, which means you can afford to treat yourself to some good food (yes, I'm talking about more Char Koay Teow) or save up for that dream vacation. 

Similarly, taking out a mortgage to buy a house can give you a cosy nest to call your own, and over time, can even appreciate in value to become a profitable asset.

Good debt also usually comes with lower interest rates compared to bad debt. It's like getting a discount on your favourite tech brand - who doesn't love that? This means you'll end up paying less in interest over time and can use that extra money for things that truly matter.

However, don't let the word "good" fool you into thinking that good debt is completely risk-free. If you don't manage it properly, good debt can still turn bad faster than you can say "roti canai". 

For example, taking out a mortgage that's too large for your income can leave you scrambling to make payments and even risk foreclosure. Similarly, taking out a business loan without a solid plan in place can leave you with a financial mess on your hands.

So, to sum it up, good debt is the type of debt that helps you invest in your future and comes with lower interest rates. But always remember to manage it properly and avoid biting off more than you can chew. 

What is Bad Debt?

Okay, now let's talk about the "bad stuff" - bad debt. This is the type of debt that can really weigh you down, both financially and emotionally. 

Bad debt is like that ex who keeps coming back into your life and making things complicated. 

It includes things like credit card debt, personal loans, and payday loans. These types of loans are often taken out without a specific purpose in mind and can quickly spiral out of control if you're not careful. But, when used wisely, they can be used to improve your credit score. 

The biggest problem with bad debt is that it comes with high interest rates that can leave you feeling like you're swimming upstream against a strong current. It's like paying double for your Netflix subscription- not a good feeling, right? 

This means that you end up paying more and more over time, and it can take you years (even decades!) to pay off the debt.

Another issue with bad debt is that it's often used to fund things that aren't really necessary, like a new pair of sneakers or the latest smartphone model. Sure, these things may bring some short-term pleasure, but they won't do much to improve your financial situation in the long run. 

If you find yourself in bad debt, don't panic - there are ways to get out of it. We'll discuss some tips for managing and reducing debt in the next section. (Hint: it involves less shopping and more saving - trust me, your future self will thank you for it!)

Is It Ever Okay to Have Bad Debt?

Now that we've talked about good debt and bad debt, you might be wondering: is it ever okay to have bad debt? The answer is yes and no - let me explain.

First of all, let's be clear: bad debt is never ideal. It can harm your credit score, cause stress and anxiety, and eat up a big chunk of your income in interest payments. That being said, there are some situations where bad debt might be unavoidable or even necessary.

For example, if you're facing a medical emergency or unexpected job loss, you might have no choice but to turn to credit cards or personal loans to cover your expenses. Similarly, if you're starting a business and need some initial funding, you might have to take out a loan with less-than-ideal terms.

In these situations, it's important to approach bad debt with caution and a clear plan for paying it off as soon as possible. Don't let it snowball into a bigger problem that can damage your financial future. Instead, create a budget, cut back on non-essential spending, and explore ways to increase your income (like taking on a side hustle or freelancing gig).

On the other hand, if you're taking out bad debt to fund a shopping spree or a luxury vacation, it's time to reevaluate your priorities. 

Remember, bad debt is a slippery slope that can quickly get out of hand. Instead, consider saving up for the things you really want or finding alternative ways to treat yourself (like a DIY spa day at home or a picnic in the park with friends).

How to Make Sure Your Debt is Helping Rather Than Hurting Your Credit Score

Now that you know how good debt and bad debt can affect your credit score, it's important to make sure your debt is helping rather than hurting your score. Here are some tips to keep in mind:

Make payments on time: This is perhaps the most important factor in maintaining a good credit score. Late payments can stay on your credit report for up to 7 years and can significantly damage your score. To avoid this, set up automatic payments or reminders to ensure you never miss a due date.

Keep credit utilisation low: Your credit utilisation ratio is the amount of credit you're using compared to the total credit available to you. Experts recommend keeping your credit utilisation below 30% to maintain a good score. This means that if your credit limit is RM5,000, you should aim to keep your balance below RM1,500.

Don't close credit accounts: Closing a credit account may seem like a good idea, but it can actually hurt your credit score. This is because it reduces the amount of available credit you have, which can increase your credit utilisation ratio. Instead, consider keeping unused accounts open and using them occasionally to keep them active.

Monitor your credit report: Keep an eye on your CCRIS and CTOS report to ensure there are no errors. Checking your credit report regularly can also help you identify areas where you can improve your score.

By following these tips, you can ensure that your debt is helping rather than hurting your credit score. Remember that maintaining a good credit score takes time and effort!

The Bottom Line 

To sum it up,  good debt and bad debt are two very different things, so it’s important to understand the difference to help you build wealth and avoid financial setbacks.

Remember, not all debt is evil, but it's crucial to use it wisely. By following the tips we've discussed in this article, you can make sure your debt is helping rather than hurting your credit score and your financial future.

By taking the time to learn about this, you can take control of your financial life and work towards achieving financial freedom!

On this page

What is Good Debt?

What is Bad Debt?

Is It Ever Okay to Have Bad Debt?

How to Make Sure Your Debt is Helping Rather Than Hurting Your Credit Score

The Bottom Line 

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Written by

Sabrina Loh

I’m Sabrina, a versatile writer with 7+ years of experience and I’ve been published by household names such as Tatler, Harper’s Bazaar, Mindvalley, and Cosme Japan.

👇 Follow my journey on my social media accounts 👇

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