Good Debt and Bad Debt: A Useful Distinction, Carefully Applied
The rate matters, what the money buys matters, and whether you could survive losing the income matters. The label 'good debt' matters least.
Key points
- Debt is worth taking when it buys something that earns or appreciates more than it costs.
- The interest rate is the single most important factor, and it is often ignored in this framing.
- A mortgage is not automatically good debt, and a personal loan is not automatically bad.
- Any debt becomes bad if the payments stop being affordable.
A better framework than the label
Rather than sorting debt into two boxes, ask four questions:
- What does it cost? The interest rate, including fees, expressed as an APR. This is the one people skip and it is the most decisive.
- What does it buy? Something that appreciates, generates income or increases your earning power — or something that depreciates or is consumed.
- Could you service it if income fell? Debt that is affordable only while everything goes well is a bet, not a plan.
- Is it secured, and against what? Secured debt is cheaper because the lender can take the asset. That is the trade you are making.
A 3 % mortgage on a home you can comfortably afford answers all four well. A 6 % mortgage at the absolute limit of affordability does not, even though both are “good debt” by the usual label.
Applying it
| Debt | Typical rate | Assessment |
|---|---|---|
| Mortgage | 3–6 % | Usually justified — buys an appreciating asset you need anyway |
| Student loan | Varies widely | Depends entirely on the qualification and the repayment terms |
| Business loan | 6–12 % | Justified if the return exceeds the cost, which is not guaranteed |
| Car finance | 5–12 % | Buys a depreciating asset; often necessary, rarely optimal |
| Personal loan | 7–20 % | Depends on purpose; good for consolidating worse debt |
| Credit card | 20–30 % | Very expensive unless cleared monthly |
| Overdraft | 30–40 % | Among the most expensive mainstream credit |
| Payday or short-term | 100 %+ | Avoid except in genuine emergency, and repay immediately |
| Buy now pay later | 0 % then penalties | Free if repaid on time; encourages spending that would not otherwise happen |
Note that student loans vary enormously. In systems where repayment is income-contingent and the balance is written off after a period, the “debt” behaves more like a graduate tax and paying it off early can be a mistake. In systems with commercial terms and no write-off, it is an ordinary loan.
Where the framing misleads
“Good debt” used to justify borrowing more. A mortgage is the classic example. The label encourages people to borrow the maximum offered, which is exactly the circumstance where it stops being good debt — when a rate rise or an income interruption makes it unaffordable.
Ignoring the rate. A 15 % loan to fund a business is not automatically good simply because it is a business. It is good only if the venture reliably returns more than 15 %, which most do not.
Forgetting opportunity cost. Money used to service debt is money not saved or invested. Low-rate debt held while investing may be rational; high-rate debt held while investing almost never is.
Treating 0 % as free. Interest-free credit and buy-now-pay-later cost nothing in interest and reliably increase how much people spend. The cost is real; it just is not on the statement.
The practical order
If you have several debts and limited money, the sequence is straightforward:
- Pay every minimum, every month, on time. Missed payments damage credit files for years.
- Build roughly one month of essential expenses as a buffer, so the next surprise does not become new debt.
- Attack anything above about 8 % interest, highest rate first.
- Complete the emergency fund.
- Then weigh remaining low-rate debt against investing — the comparison is between the debt rate and your realistic expected return, after tax.
Our debt payoff calculator models the repayment order, and the emergency fund calculator sizes the buffer.
If minimum payments are already unaffordable, none of this applies. Free debt advice charities will negotiate with creditors, frequently freezing interest. Contacting one early is far better than waiting.
Frequently asked questions
Should I pay off my mortgage early?
It depends on the rate against your alternatives. Overpaying a 5 % mortgage is a guaranteed 5 % return, which is attractive. Against that, the money becomes illiquid and you may do better investing it over a long horizon. Clear higher-rate debt and build an emergency fund first either way.
Is a 0% credit card safe to use?
The interest is genuinely zero for the promotional period. The risks are that the rate reverts to a high one afterwards, and that easy credit increases spending. Divide the balance by the number of interest-free months and set a standing order for exactly that.
Does having debt hurt my credit score?
Having debt and managing it well generally helps, by demonstrating a repayment history. What damages a score is missed payments and high credit utilisation — using a large share of your available limit.