· Listen
All debt has a cost (interest) and creates an obligation. But some debts can build wealth, while others actively destroy it. The simple framework: look at the interest rate and what the debt enabled you to acquire.
Generally 'better' debt
- Mortgage on your primary home: typically 6-7%, fixed, tax-advantaged in some cases, builds equity in an appreciating asset
- Federal student loans for a degree with a clear earnings path: typically 4-7%, with flexible repayment options
- Low-rate business loans for genuinely productive equipment or expansion
Generally 'worse' debt
- Credit card debt: 22-28% interest, usually for consumption that has already been used up
- Auto loans on luxury cars: depreciating asset, often financed for too long
- Buy-now-pay-later for impulse purchases
- Payday loans: annualized rates often above 300%
The rule of thumb
If the interest rate is higher than you can reasonably expect investments to return (say, 7-8%), pay it off aggressively before investing. If it's lower (3-4% mortgage), you're often better off investing the extra money instead of paying it down faster.
Credit card debt is almost always the highest-leverage thing to attack. Paying off 24% credit card debt is the equivalent of a guaranteed 24% return, a number nothing in legitimate investing can match.
What this lesson is NOT
The good-versus-bad split is a rule of thumb, not a law. A normally good debt can turn bad at a high rate or a long term, and a normally bad debt can be the rational choice in a real emergency. This lesson is the framework for thinking it through, not a ranking of your specific debts.
Quick check on this lesson
Answer each question and we’ll show you why the right answer is right, and why the others aren’t.
- 1.
Per the lesson, what's the simple framework for evaluating debt?
- 2.
Per the lesson, what makes a mortgage on your primary home generally 'better' debt?
- 3.
Per the lesson, why is credit card debt typically considered the worst kind?
- 4.
Per the lesson's rule of thumb, when should you prioritize paying off debt over investing?
- 5.
Per the tip callout, why is paying off credit card debt the highest-leverage move available?
0 of 5 answered