Good Debt vs. Bad Debt

April 1, 2013

finance termsIt can be virtually impossible to live without any debt; as many Canadians are unable to pay cash for their homes, cars or post-secondary education. There are many situations where it makes sense to borrow money, while others it does not. It’s very easy to spend more than you can afford – especially with loans and credit cards easily available.

Good Debt

Buying a home, paying for education or financing a car is known as good debt – essentially anything that you need (not want) and cannot afford to pay for upfront. You must ensure that you are able to afford the monthly payments. Saving money for a down payment is always a good idea to help lessen the monthly cost. For example, saving 20% for a home is wise. You should also keep an emergency fund and avoid depleting it when making a big purchase. Good debts tend to act as an investment towards your future, with the exception of a car which many people need.

Bad Debt

Canadians who accumulate a significant amount of bad debt tend to think more with the emotional side of their brain that encourages wild behaviour and impulse buying. The true definition of bad debt is a debt that is worthless to a creditor – meaning no real value. Going into debt for a want versus a need is not usually a good idea. Buying a new wardrobe on credit, for example, is not considered an investment.

How do Canadians feel about debt?

  • 50%: Proportion of Canadians who think reducing debt is a high priority
  • 48%: Share of Canadians who would have difficulty making mortgage payments if interest rates rose significantly
  • 43%: Proportion who carried over a balance on their credit cards
  • 17%: Share who had borrowed to cover day-to-day living expenses

Source: Canadian Institute of Chartered Accountants surveys conducted in December and June, 2012