Turning Bad Debt to Good Debt
Summary: Debt held by consumers can be categorized into good debt and bad debt. Good debts are investments that offer borrowers a return on their money. Bad debts, on the other hand, are purchases with depreciating values.
What is a Good Debt?
Good debt is an investment. These purchases offer the borrower a return on their money and add value to their net worth. Good debt has lower interest rates that make paying the debt back more feasible. A common example of good debt is a housing loan. A housing loan for first-time home buyers or seasoned purchasers holds many benefits, such as: low interest rates and earning a high return on the home asset when selling. Homeowners are currently earning higher returns on their investment due to significant home appreciation.
What is a Bad Debt?
Bad debt is a purchase with a high interest rate or a product with depreciating value. These products negatively impact a borrower’s credit score and personal finances. A common example of bad debt is a high interest rate credit card. Interest rates on credit cards can range between 16% to 20%. These are rhythmic debts of recurring balances where borrowers primarily pay interest every month and may have a hard time paying down their principal.
However, utilizing credit cards responsibly can make this bad debt a good debt. Credit cards are an effective way to build credit if used strategically and paid timely.
Turning Bad Debt into Good Debt
Transitioning bad debt to good debt can put consumers in a better financial situation and save them thousands of dollars over the course of their loan terms. You can turn bad debt, such as credit card balances, into a good debt by refinancing your home with a cash-out refinance. Homeowners can tap into the equity within their home, receive a lower interest rate, and withdraw money to pay off bad debt like credit cards. Consumers are encouraged to pay off current debt before taking on additional ones.
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