Most of us think of debt as a bad word. I know that I personally struggle with being in debt. Our society tends to frown upon debt. However, debt is just a word. It’s neutral. There are actually good kinds of debt and bad kinds of debt. And believe it or not, you can use debt to build wealth.
Let’s Get Rid of The Charge Around the Word “Debt”
Each of us has a money personality and a psychology around money. It’s made up of many things from family messages to cultural beliefs to our own internalized experiences with money. It’s complicated. As a result, we tend to experience money emotionally, when we need to look at it logically. Debt is certainly a place where this shows up.
So, first, let’s get rid of the emotional charge that we have around the word “debt.” It’s not bad to be in debt. However, it’s also not good to be in debt. It just “is.” There’s good debt and bad debt, and the better we understand debt from a logical, rather than emotional, perspective, the easier it is to handle debt.
Good Debt vs. Bad Debt
US Bank puts it this way:
- Good debt is when you borrow money that you can use to build long-term wealth.
- Bad debt is when you borrow money that depletes you’re finances.
So, if you believe that college education will likely lead you to a high paying job, then school debt is good debt. In contrast, buying unnecessary luxury items on high-interest credit cards that you’ll have trouble paying back is bad debt.
US Bank further says that with any debt you should take into consideration:
- How much you’re borrowing and likely how long it will take you to pay it back
- What the interest rate is; how much is this debt costing you?
- What are you borrowing the money for? Long-term, will it help you build wealth or harm your finances?
- You are unique in how much you can emotionally tolerate debt. If debt is hard for you, take out less of it.
5 Smart Ways You Can Use Debt To Build Wealth
Now we understand that there is such thing as good debt. Good debt is when you can use debt to build wealth over the course of your lifetime. Everyone’s situation is different. Your risk tolerance, your money psychology, and your career beliefs all play into whether or not the following things are right for you. However, generally speaking, here are four smart ways that you can use debt to build wealth:
1. Higher Education
There’s a lot of debate around this topic, of course. However, if you go to college, including grad school, then you likely have a better chance of earning a higher income. This means more money over the course of your lifetime. Student debt is generally low-interest, easy to defer as needed, and sometimes even forgivable. Therefore, you can use student debt to build wealth.
2. Buying a Home
A home is a huge asset. Of course, it’s also a huge cost. However, if you can afford to pay the mortgage on your home, then this is usually good debt. In particular, if you get low mortgage interest rates, you’ll usually benefit in the long run from buying a home. You can refinance the home later, sell the home, and leverage it in other ways over time.
In some cases, buying a second home is also a good way to use debt to build wealth. If you can afford a second home that you can then rent out for income, then it’s a good investment.
3. Leveraged Investing
US Bank explains that if you can borrow money for less than you can earn on an investment, then it’s a good way to use debt to build wealth. Let’s say you can invest in something that has a 10% return rate. At the same time, you’re able to borrow money at a rate of just 5%. You borrow the money but you make more in the long run.
4. Debt Recycling
BT suggests the option of debt recycling. Let’s say that you have $5000 in credit card debt. You take $5000 out of your savings account and pay off that bad debt. (BT calls it inefficient vs efficient debt, rather than bad vs. good.) You’re now even. Then you borrow $5000 at a low interest rate, investing it in something that builds wealth for you over time. So you’re still where you started – owing $5000. However, not that’s debt that’s building you wealth instead of just eating away at your money.
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Kathryn Vercillo is a professional writer with more than a decade of experience writing about healthy living and personal finance. She lives in San Francisco, where she has learned to maximize frugal living tips in order to thrive as a freelancer in one of the nation’s most expensive cities. When she’s not writing, she’s exploring the city on foot with her rescue dog. Learn more about her at www.kathrynvercillo.com. Kathryn also writes about saving money with coupons over at GroceryCouponGuide.com .