Conventional wisdom states that borrowing money for education or a home is “good” debt. Unlike using a credit card or borrowing to buy a car, schooling and your home are things that stand the test of time. No one can take your education away from you. It’s unlikely that a cargo truck will clip your home and “total” it. Theoretically, both education and a home will appreciate in value.
Since 2008, we know all too well that we can’t take that value appreciation for granted. Who would have predicted that borrowers could become underwater in their homes? The students who graduated just as the economy took a nosedive do not necessarily feel like the money they borrowed for their education is going to see a return on the investment. So does that mean we need to rethink the idea of good debt?
What makes good debt dangerous
The idea that it is worth it to go into debt to further your career and own a house is not a bad one. The alternative would be to work for years at a low-paying job so you could set aside the money for college, or to live in an apartment for thirty years to save up for a house. Clearly that’s insane. Borrowing money to do these things before senility sets in is definitely in your best interest. The problem lies with the scope of what you borrow.
Student loan pitfalls
Putting an entire medical school bill on student loans is a recipe for eating ramen forever. Or at least for setting yourself up for huge debt throughout your life. Students get themselves in trouble with student loans because they might not feel they can wait for their education. Putting school off for a few years while you save up is a reasonable way to keep your loans low, as is working throughout school. Without these measures, graduates are finding they cannot begin to pay their loans on the salaries they make right after college. Even living like a student is too expensive if you have to pay interest on it.
The problem with mortgages
There is no need to re-hash all the problems that led to the housing collapse. But the most important thing to learn from that mess is that it’s ridiculous to buy more house than you need. A mortgage may be “good” debt, but if it equals ten times your annual income, it will be nothing more than an anchor around your neck. An affordable house will generally cost no more than three times your salary.
And even though “no-money down” mortgages have thankfully gone the way of the dodo, it is still important to remember that having a reasonable down payment saved is part of the process of home-buying. Not only does it give you instant equity in your house, it also trains you to budget and save before you’ve even found your dream home.
The bottom line
Americans have been seduced by credit and instant gratification. Having everything available on credit, including expenses that people traditionally saved for like education and houses, made it seem like there was no limit to “good” debt. But student loans and mortgages are only as good as their borrower’s budgeting skills. Before jumping into a loan, know ahead of time what it’s really going to cost you.
