Occasionally we hear the concept being discussed whether debt is good debt or bad debt. In a perfect world, the best kind of debt is no debt! However, sometimes debt is necessary in order to make life work. Even our government leaders try to spin taking on debt as an investment as opposed to borrowing.
There are definitely debts that can be bad in several ways:
1. Bad debt has non-deductible interest. The interest on debt that is incurred to help earn business or investment income is generally deductible against income on a tax return. If you can’t deduct the interest expense then the debt gets pushed into the bad category. We would recommend checking with an income tax professional to determine whether the interest on your debt is tax deductible.
2. Bad debt has high interest rates – this can make the debt very difficult to pay back. We usually see high interest rates on payday loans or instalment loans from non-bank lenders.
3. Income tax debt – we think this qualifies as bad debt just because Canada Revenue Agency is so powerful in the ways that they can collect the debt. This can go as far as placing a 100% garnish on wages and or freezing up your banking. In addition, they have the power to lien your property.
4. Bad debt often has hidden fees for administration and other additional expenses. For example, we see this if someone is trying for a second mortgage.
On the other hand, good debt is usually associated with the following:
1. Good debt gives you the ability to acquire property such as real estate or a vehicle or perhaps an investment.
2. Good debt has low or modest interest rates. Interest rates can generally range from 3% to 36% or higher so the poor soul that wanders into a 29% interest rate without knowing it will have a very difficult time ever paying it back. We would advise to shop for a low interest rate and not necessarily agree to sign the first loan that is offered. If the interest rate is above 10% we would recommend not proceeding.
3. Good debt has a reasonable payback time line so you are not stuck in it forever.
4. Good debt is affordable such that the monthly payments can reasonably fit your budget and not stretch you to the edge.
Everyone’s situation is slightly different and the above points generalize some characteristics about good and bad debt. If your debt is not going down, or if you are experiencing oppressive collection like phone calls from collectors or an income tax garnish, you need some debt help.
Please feel free to contact our office to learn what your options are in order to get on a better financial path. It may be as simple as making changes to your budget or obtaining a consolidation loan. If that is not possible, then you may need the assistance of federally approved programs such as a consumer proposal or a bankruptcy. These latter two must be administered by a Licensed Insolvency Trustee (that’s us!).
While some of these terms may sound intimidating make an appointment and ask questions! In our experience, once you find out the details of your options, debt stress will leave your life. Why not make that first appointment, it’s free!