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Saying bad debt and good debt almost sounds like asking if you would rather a dog bit your left hand or your right hand. One might be a little easier on you, but you have still been bitten. However, all debt is not created equal. Some is high risk. Some is considered low risk. Some is secured, and other debt is unsecured. To a large extent, whether debt is good or bad depends on how it affects your ability to enjoy life. Having no credit available is not too fun at times either.

Let's take the bad debt first. Debt is considered bad when you have no collateral to back it up, or you are unable to retire the debt entirely when it is due. Paying excessive interest is never considered a positive unless it is extremely short term. If you pile up lots of unsecured debt like credit cards and signature loans, it is considered a serious black mark on your credit score.

Normally, people who are liquid financially do not need large amounts of unsecured debt over a substantial amount of time. They may borrow on their signature, but it is just to take care of some immediate project or need until the funds come to repay the loan. It becomes bad debt when the funds do not appear, and a payoff plan must be constructed.

Some might argue that since any debt carries a measure of risk to both the borrower and the lender that all debt is bad. Conversely, the point may be made in the other direction that if people were not willing to take realistic financial risks, many great accomplishments would have gone undone. The reality is that without debt, most people would end their lives with only marginally more assets than they began it.

The majority of homeowners know that at the end of a mortgage is a home that they own outright. This risk is certainly not only one that many take every day, but one that helps to fuel the economy which provides the income to keep loan payments rolling into the coffers of financial institutions. Banks being able to keep their money working builds communities and contributes to the personal wealth of the citizens of the community.

Good debt is normally secured by collateral like a car or a house. Theoretically if the debt cannot be paid, the collateral will satisfy the debt. Both the debtor and creditor are satisfied. If the debt is retired, then the borrower takes unrestricted position of the security. Debt is also considered good even if unsecured if the borrower has the wherewithal to repay the debt from other funds. The loan may be unsecured but a certificate of deposit or other asset has a value equal or greater than the debt.

In short, any debt that puts the borrower into negative net worth when weighed against assets may be considered bad debt. Debt that can be covered by the net worth of the borrower is generally good debt. The interest rates and repayment terms usually reflect the difference.

Learn more about this author, Allen Teal.
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