From mortgages and car payments to credit cards and student loans; having some debt is normal. The important thing is that you exercise excellent debt management skills to ensure your financial moves are smart ones.
The Importance of Debt Management
Keeping your finances in check means proper debt management. This practice includes things like taking the time to consider whether that new credit card or auto loan is working towards your goals. It also includes knowing the difference between good debt vs. bad debt and how it will affect your finances.
Understanding Good Debt vs. Bad Debt
Savvy people know that all types of debt are not created equally. In fact, the type of debt you incur as well as the amount of debt and the interest rate all play a crucial role in the definition of good debt vs. bad debt. Debt can actually be beneficial if it can work for you and improve your financial situation. Making smart money choices and understanding good debt vs. bad debt is the key.
Key Differences Between Good Debt and Bad Debt
Good Debt – Any type of low-interest debt that can assist in building your net worth is considered to be good debt. Examples include:
- Home Mortgage
- Student Loans
- Auto Loans
Bad Debt – Any type of high-interest debt that is costing you money while not adding any worth is considered bad debt. Examples include:
- Credit Card Debt
- Payday Loans
- Personal Loans (when used for frivolous expenses)
Here are some tips for proper debt management, so you can make smart financial choices for your future.
Proper Debt Management
- Create a Realistic Budget - Proper budgeting ensures you can afford to pay your debt on time. This will help keep your credit score high which enables you to receive lower interest rate loans and credit cards.
- Set Financial Goals – Knowing what you want to accomplish in your financial future and setting goals will help you be successful in reaching them.
- Prioritizing Debt Repayment – Financial experts recommend using the snowball method vs. the avalanche method for debt repayment. The avalanche method requires that you pay off the high-interest debt first while the snowball method requires that you pay off the smallest debt first.
- Importance of an Emergency Fund – An emergency fund is crucial for proper debt management so that you will not fall behind on payments in the event of an emergency. Doing so could hurt your credit score, causing increased interest rates and costly fees.
Avoiding Bad Debt
- Responsible Credit Card Usage – Paying your monthly payment on time earns you a good credit history. Also making more than the minimum payment to lower the interest charges you will pay is a savvy move.
- Steer Clear of Payday Loans – The cost is high for these short term, high interest loans that typically have to be paid back on your next scheduled payday. In addition, they are rarely reported to the major credit bureaus, so you may not even get credit for paying on time.
- Resist Impulse Purchases – The easiest way to avoid bad debt is to resist impulse purchases. Making a budget and some credit card rules can help keep you on track.
- Seek Financial Advice – Don't hesitate to reach out for financial and debt management advice from the professionals at your local credit union. They can recommend their best financial products that will help you achieve your goals.
Building Good Debt
- Leverage Debt for Investments – Good debt makes you money and things like paying a monthly mortgage, results in a higher net worth. Also, the mortgage interest is tax-deductible, which is another benefit of leveraging debt for investments.
- Monitor Credit Utilization – Since the type of credit accounts and the amount of available credit all make a difference on your credit score, it's a good idea to monitor your credit utilization on a regular basis to stay on track.
- Review and Improve Credit Reports – It’s a good habit to get a copy of your credit reports at least annually. Look over them thoroughly to ensure all accounts are legitimate. Also look for ways to improve your score such as eliminating bad debt.
Impact on Credit Score and Future Opportunities
One of the main ways people are impacted by proper debt management is by improvement of their credit score. This can be earned by utilizing good debt accounts and paying them on time.
Earning a good credit score is one of the most important things you can do to reach your financial goals. Here are some of the benefits.
Benefits of a Good Credit Score
- Borrowing Opportunities - A good credit score opens a variety of low interest, good debt borrowing opportunities.
- Enhanced Financial Stability – When you have a good credit score, you become more financially stable. You should be able to secure a loan for anything from a home to a car with ease, providing enhanced financial stability earned by good debt management.
- Reduces Stress - Having to worry about the financial well-being of your family is a lot of pressure. Having a good credit score eases worry and stress and allows you to enjoy life more.
- Achieve Long-Term Financial Goals - Your proven creditworthiness offers a secure and stable financial situation where you're in control and can build your wealth to achieve your long-term goals.
A Smart Way to Manage Debt at A Smart Place to Bank
Mastering the art of debt management is essential for achieving long-term financial success. By understanding the distinctions between good and bad debt, making savvy financial decisions, and implementing smart strategies, you can take control of your financial future. Remember, it's not about avoiding debt entirely but using it wisely to build your wealth and secure your financial well-being. Contact Peach State today if you have any questions about your current finances and how to achieve your long term goals.