Nobody likes being in debt.
Everyone can agree on that, yet people still find themselves owing someone something. Despite their best efforts, people can still find themselves up to their eyeballs in debt.
As difficult as debt can be to avoid, it’s possible to be responsible with it and to take measures to prevent becoming overwhelmed. The key is to be smart and proactive.
How does one borrow intelligently? There are a few ways to accomplish this, mainly by taking on good debt and avoiding bad debt.
Good debt may sound like an oxymoron, but such a thing exists. Good debt is taking out a mortgage (especially with today’s low rates), a student loan or a business loan. This indebtedness can make money in the long run and is often necessary. Staying current with these payments also helps to build a good credit score.
Bad debt can come in several forms. It can entail high-interest loans (such as credit cards) or any debt that lasts longer than the item purchased, or enjoyment provided. Debt for everyday living expenses like eating out, clothes or entertainment should be avoided. Don’t put items like this on a credit card unless you’re paying the card off entirely every month. These are expenses that should go on a debit card, not a credit card.
Borrowing from a 401(k) boils down to borrowing from the future to pay for the present. A loan from your retirement savings is paid back to your own account (within five years), but the loan prevents those funds from growing during the lapse. So while not necessarily bad debt, taking a loan out against a retirement account should be a last resort.
Getting out of debt
Debt is a part of life. It happens, and very few people are able to go through life without borrowing. However, there are ways to ensure that debt is used to our benefit without keeping us up at night.
You can insulate yourself against paying large sums in interest and speed up the process of becoming debt-free ? the ideal goal for retirement.
Having a healthy emergency fund (between three and six months’ worth of expenses) in savings can cover certain costs without having to resort to credit cards or loans. Making extra payments and paying above the minimum will lower the amount of interest paid, shortening the payoff process as well. When considering which debt to tackle, pay down higher interest rates first, addressing your mortgage last.
Getting out from under debt can be difficult, so it’s best not to venture down that path in the first place. However, it’s almost impossible to avoid it completely, so try to take on only good debt, stay away from bad debt and create a plan for eliminating debt.