Good Debt Vs Bad Debt: The Key Differences You Should Know

Most financial advisors will advise against taking any kind of debt as they can be detrimental to your financial situation. However, there are instances when applying for one or two will do more good than bad to your finances. These kinds of loans are referred to as ‘good debts’, while loans offering disadvantages due to their high-interest or inflexibility are referred to as ‘bad debts’.

If you are unfamiliar with good or bad debt, here’s what you need to know about their key differences and examples.

Good debts

Good debts are often considered as debt that can help you generate income and increase your net worth. Here are some examples of good debts that can benefit the borrower.

1. Debt consolidation

A debt consolidation loan in Singapore has the possibility of reducing your combined interest rates by a significant amount. This personal loan can also reduce the stress of repaying multiple debts and loans every month by combining all of them into one single monthly payment.

It is an organised payment plan that allows you to have a clearer and better understanding of how to manage your finances effectively. Some of the benefits include fewer payments, prompt repayment, increased credit score, and low-interest rates that can help you to save costs.

2. Federal student loans

Tertiary institutions like colleges and universities can have high student fees, making student loans a great financial solution to help you continue your studies. With student loans, students are able to graduate from their college or universities and start working with the degree that they have achieved.

3. Mortgages

Renting a home can come with many hassles for renters. Taking out a mortgage is a brilliant step towards purchasing a home as the loan is ‘secured’ until you pay off the debt for your home. Taking out a mortgage and making timely payments can also provide you with numerous financial benefits, such as increasing your credit scores.

4. Business loans

A small business may find it incredibly challenging to get started in the early stages. This is where a business loan is vital as it provides adequate funding for companies looking to expand and increase their return on investment. This loan has a fixed interest rate, making it exceptionally easy for individuals to pay it back without accumulating extra costs.

Bad debts

Bad debt is considered as borrowing money to purchase depreciating assets, or debt that offer a disadvantage to the borrower due to high-interest rates, fraudulent loans, or inflexibility. Here are a few key examples.

1. Credit card debts

Credit card debts are one of the worst forms of bad debt. It is an accumulation of purchases made with your credit card and can greatly damage your credit score. It is also important to note that the interest rates on credit card debts could be charged higher than the rates on other consumer loans.

2. Loan shark debts

Unlicensed moneylenders are able to offer short term loans in Singapore that are dishonest and disadvantageous to the borrower. These fraudulent debts offer high-risk and high-interest rates where illegal lenders abuse their stringent payback policies to the detriment of the borrowers’ interest.

Always check to see if the moneylender appears on the list of licensed moneylenders in Singapore from the Ministry Of Law to make sure that you are not dealing with a loan shark.

3. Private student loans

Private student loans offer many downsides when compared to federal student loans. For instance, private student loans are less flexible, have higher interest rates, do not allow you to change your payment plan easily, and do not offer payment plans with payments that are capped based on income.

The borrower or the co-signer also needs to have a good credit score before they can apply for a private student loan.

Conclusion

Understanding the differences between good debt and bad debt allows you to seek out the best financial solutions based on your needs. It can also protect you from taking out loans with high-interest rates, loans from dishonest lenders, and loans that do not offer flexible options.

Thus, the best way to determine whether a debt is good or bad depends on your financial situation, along with other factors like what you are applying the loan for and if there are better financial alternatives to consider.

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