Wednesday, January 13, 2010

Good Debt Versus Bad Debt

How many of us have been to our physician and received an explanation about good cholesterol and bad cholesterol? Much has been written about it, as well. But, how many have heard explanations about good debt versus bad debt? Probably very few, as financial education is sorely lacking in society.

Personal debt is on the rise, partly because obtaining credit today is relatively easy. If you breathe, you can probably obtain a credit card from your bank or a retail store. And, more often than not, the only one who benefits is the one who issues the card and charges interest rates that can exceed 20 percent.

Far too many consumers confuse credit cards and cash. If you are prepared to pay off your monthly balance and merely use the card for convenience, you're in the responsible minority. However, far too many people freely use their credit cards and neglect the fact that the bill eventually has to be paid. Paying only a minimum at the end of the month only digs a deeper hole. And, truthfully, most people don't keep track of how much they spend on their cards.

On the other hand, not all debt is bad. Taking a mortgage to purchase a home is a wise investment. As the house appreciates, the value will exceed what you paid on the loan. Another example of good debt is securing a loan to purchase high return stocks or bonds. When the return exceeds the interest paid, your debt has accrued value.

Experts suggest that your debt-to-income ratio should not exceed 20 per cent. Higher than that looks bad on credit reports and can lead to difficulties. Better to keep debt to a manageable level and avoid the temptations of living on credit. Even when times are good, don't forget to prepare for the eventual rainy day as well.

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