1 min read

Tiny Thoughts: Good Debt vs Bad Debt

Tiny Thoughts: Good Debt vs Bad Debt
Photo by Towfiqu barbhuiya / Unsplash
  • I’ve been reading Sam Dogen’s personal finance book Buy This, Not That.  Sam, aka the Financial Samurai, has been running a blog by the same name since he left his job in 2009.  One piece of writing that stood out to me was his discussion of debt.  On his blog he ranks various types of debt from worst to best.
  • Most early advice in personal finance you come across will simply be to avoid debt at all costs, except maybe a mortgage.  This gives debt a bad name so I think this counter-point of recognizing debt as useful tool that can be beneficial in some situations is great.  Like anything in life, there is a lot of nuance to debt.
  • When it comes to taking on debt, you should look at two things:

            1. Why you are taking on the debt?

            2. What return you can earn on the debt?

  • If you are taking on the debt because your lifestyle inflation rate is higher than the growth in your income, this is a bad reason.  But if you are taking on a low fixed-rate mortgage to buy a primary residence (one that will likely appreciate at a rate greater than the cost to borrow), this is a great reason to use debt to your advantage.
  • The 10 year treasury yield is the risk-free rate of return that other forms of debt should be priced against.  If you can earn the treasury yield for 10 years, risk-free since it’s guaranteed by the US government, you would need to get a higher return for any additional risk.  All loans available to consumers are priced off of the risk-free rate.
  • Debt can be good when used for the right reasons.