How to Use Good Debt (While Identifying and Avoiding Bad Debt)
Not all debt is bad, but knowing the difference between good debt and bad debt and how to use them can help you get ahead financially and stay ahead.


There’s a lot of talk about debt and whether it is good or bad. As a general rule, when discussing money matters or, really, anything in life, whenever superlatives are used, something is probably missing from the conversation. The reality is debt is just a tool that allows you to use other people’s money for your benefit (or detriment).
This article is intended to clarify when it may make sense to take on debt and when it may make sense to avoid debt. In addition, I hope to offer some clarity on two types of debt that seem to be in the news a lot: mortgages and student loans. My intention is to teach the underlying principles of debt so you can make healthier personal financial decisions.
What is good debt?
Good debt, in my opinion, is any debt that is used to acquire an asset that is expected to appreciate in value. In other words, you appreciate debt that is associated with something that appreciates in value (e.g., your home).

Sign up for Kiplinger’s Free E-Newsletters
Profit and prosper with the best of expert advice on investing, taxes, retirement, personal finance and more - straight to your e-mail.
Profit and prosper with the best of expert advice - straight to your e-mail.
Second, to qualify as good debt, it must have a reasonable interest rate. As a rule of thumb, I like to think that a reasonable rate would be anything around 1.5 times the current 10-year Treasury yield or less.
Lastly, good debt does not compromise your overall quality of life. That means you can afford to make payments comfortably. It is important to live within our emotional and economic limits. That means your debt does not stress you out.

Mike Decker is the author of the book How to Retire on Time, creator of the Functional Wealth Protocol and the founder of Kedrec, which specializes in comprehensive wealth planning and management. He specializes in creating retirement plans designed to last longer than you™, without annuitized income streams or stock/bond portfolios. Mike is also a national coach to other financial advisers and frequently contributes to nationally recognized publications.
What is bad debt?
Bad debt, in my opinion, is any debt used to acquire a depreciating asset. Bad debt can also be any debt that has a high interest rate (think credit card debt). Once you take on bad debt, it becomes challenging to pay off.
Bad debt can overwhelm your budget or spending plan while preventing you from being able to save for the future. Too much of a good thing, even if it may look like “good debt,” can be bad. If you have bad debt, pay it off as fast as you can. Consider cutting back on dining out, going on vacation or taking on any other non-essential expenses so you can free yourself from the influence bad debt has over you.
Find a system that can help you pay it off as fast as possible. If you want an app that can help you get rid of bad debt while gaining a better understanding of how to manage your cash flow, I’d recommend Cash Flow & Capital. It was designed to help people develop a healthier relationship with money.
Sometimes, it can be difficult to determine if taking on debt is a good thing or a bad thing. Here are a few examples that may be able to help you understand where the line is.
Mortgage debt
Real estate can be a wonderful investment. Whether you are looking to buy a home for yourself or to rent to tenants, there’s a good chance you don’t have sufficient cash for the purchase. That’s where mortgages come in.
You need a place to live. That means you are either paying rent or paying a mortgage. Let’s say you have enough of a down payment, but the mortgage payment would still be more than your rent payment. Is it still worth it?
The basic question is, “Can you afford the payments?” If the payment fits in nicely with your overall spending plan, then all is well. If your payment causes you to tighten the belt, then it might not be a good idea.
Over time, you’ll be able to pay down the debt while the home appreciates in value. If you can pay down the mortgage more aggressively during the first few years, it can help you pay off your mortgage significantly faster than had you made the minimum payments.
All things considered, a mortgage often falls under the “good debt” category, especially when you consider rent as the alternative. Also, the home equity you build can be used to buy your next home. Lastly, if you pay off your home before you retire, then you don’t need to be worried about that expense in retirement.
Student loan debt
Another type of debt that I believe could be considered either good debt or bad debt is student debt. Let me explain.
According to the National Center for Education Statistics, a 25- to 34-year-old who works full time and has a high school diploma is expected to make up to $41,800 per year. If that same person were to go to college with the intention of getting, say, an engineering degree, their income potential would increase to $76,000 out of college. As these individuals gain experience, they may be able to increase their income to $130,000 or more.
In this situation, the individual is the asset, or investment, that can appreciate in value. Because their new skill helps them become more valuable in the workplace, they increase their overall earning potential. As mentioned earlier, you appreciate debt that is associated with something that appreciates in value, even if that is you.
Let’s run another example. Let’s say someone wants to go to school to become a teacher. Student debt may make sense if you can get a job where the state pays off your loan for you. Make sure you understand the options available to you and the probability of getting hired. When you take on debt, you take on risk. It is possible not to get hired in the field you desire.
Lastly, let’s discuss a situation where student debt would be considered bad debt. If you wanted to go to school and get a degree in something that may not give you in-demand skills for the workplace, your expected income may only be slightly higher than if you had gone straight into the workforce with a high school diploma.
This may sound harsh, but the reality is some degrees may not give you sufficient or relevant skills to increase your earning potential once you graduate to rationalize the risk or financial burden of student loan debt. In this situation, it would be better to go through school slowly while working at the same time. That way, you can pay as you go without taking on the burden of student debt.
Student debt should also be considered bad debt when the debt is so high that it can’t be paid off in a reasonable amount of time. Even if you are going to school for a skill that is in demand, you can still take on too much student debt.
In my opinion, students should consider student debt as the last resource to help them get through college or trade school. Consider paying for your education by applying for scholarships while working part time or full time. You can also help lower your education costs by first getting an associate degree at a community college before getting a bachelor’s degree or higher at another college.
Conclusion
There are many other forms of debt, good and bad. However, in the end, it is important to understand that debt is nothing more than a tool. When you take on debt, you take on risk. That risk must be rationalized by associating itself with an asset that has a high probability of appreciating in value. All debt should be limited so that it does not overwhelm your personal cash flow and overall quality of life.
Related Content
- Extra Cash? Should You Pay Off Debt or Invest?
- Five Ways You Can Assess, Manage and Pay Off Debt
- Seven Ways to Manage Your Financial Stress
- 10 Ways to Generate Retirement Income
- Retirees’ Anti-Bucket List: 10 Experiences You Don’t Want
Profit and prosper with the best of Kiplinger's advice on investing, taxes, retirement, personal finance and much more. Delivered daily. Enter your email in the box and click Sign Me Up.

Mike Decker is the author of the book How to Retire on Time, creator of the Functional Wealth Protocol, and the founder of Kedrec, a Registered Investment Advisory firm located in Kansas that specializes in comprehensive wealth planning and management at a flat fee. He specializes in creating retirement plans designed to last longer than you™, without annuitized income streams or stock/bond portfolios. In addition to helping people achieve their financial goals, Decker continues to act as a national coach to other financial advisers and frequently contributes to nationally recognized publications.
-
What About Those ‘Guaranteed’ Life Insurance Ads?
Guaranteed life insurance policies can sound tempting if you've been declined for insurance elsewhere. Here are four downsides and one alternative.
-
13 Answers to Pressing Social Security Questions
From smart claiming strategies for couples to tips on maximizing your monthly check, we have advice that can help you.
-
What About Those ‘Guaranteed’ Life Insurance Ads?
Guaranteed life insurance policies can sound tempting if you've been declined for insurance elsewhere. Here are four downsides and one alternative.
-
Keep Tax Collectors at Bay with Muni Bond Funds
Municipal bonds can be good insurance against inflation — and interest is tax-free. But as with all investments, understanding risk is key.
-
Eight Tips From a Financial Caddie: How to Keep Your Retirement on the Fairway
Think of your financial adviser as a golf caddie — giving you the advice you need to nail the retirement course, avoiding financial bunkers and bogeys.
-
Just Sold Your Business? Avoid These Five Hasty Moves
If you've exited your business, financial advice is likely to be flooding in from all quarters. But wait until the dust settles before making any big moves.
-
Cord Cutting Could Help You Save Over $10,000 in 10 Years
How cutting the cord can save you money and how those savings can grow over time.
-
Should I Buy Stocks or Should I Buy Bonds Right Now?
Generally speaking, stocks provide reasonable growth while bonds provide stable income. Each play important roles in diversified portfolios.
-
Tips for Expat Retirees, From Expat Retirees
You may enjoy a lower cost of living by moving abroad, but it requires careful planning.
-
You Were Planning to Retire This Year: Should You Go Ahead?
If the economic climate is making you doubt whether you should retire this year, these three questions will help you make up your mind.