Growing up, we are often told to avoid debt because it is a bad thing. But, what is debt? How can it be good? How can it be bad? How can we manage it?
What is debt?
Debt is something owed by one party (the borrower or debtor) to a second party (the lender or creditor). Some examples of debt are credit cards and loans. You are given money that is not yours and are expected to pay it back over a designated period of time. You will also pay, interest, which is like a rental fee for borrowing money.
Debt, when used correctly, can be beneficial to you. It is good to have moderate debt in order to build your credit score and finance things you may not be able to pay for otherwise, such as a car, house, or education. If you have a credit card and pay off your balance each month, you are handling your debt responsibly and it will be reflected positively in your credit score. When your credit score goes up, you are more likely to receive a better interest rate and be viewed by lenders as a responsible borrower, making future loans easier to receive.
When you take on more debt than you can pay off, borrowing turns negative. If you get a loan and you are late or miss payments, your credit score will drop dramatically. This is bad debt that can quickly snowball out of control. Bad debt can also lead to more debt, collections, civil court cases, and even bankruptcy. This will make it harder for you to get credit in the future, increase your interest rates, and look bad when applying for jobs or trying to find housing. Your credit score is a measurement of responsibility, and a low score and bad debt makes you seem untrustworthy to lenders.
How can I manage it?
To manage your debt, make sure you are paying off what you owe in full by due dates. If you cannot afford to pay in full on time, you should pay at least the minimum required by the due date. The best way to do this is to be conscious of what you are spending. For credit cards, try using one only for fixed expenses (those that don’t change on a monthly basis), like rent or car payments. In addition, avoid using more than 20% of your available balance. Doing this will not only keep your balance and payments manageable, but it will also reflect positively in your credit score. For loans, only take out loans that you can comfortably pay off and are necessities. In other words, be realistic. If you can’t afford it and don’t need it, then you should not go into debt to have it.