Are Student Loans Good Debt or Bad Debt?

As many of us are well aware, the cost of a college education has rapidly increased. In fact, many college graduates finish school with tens of thousands of dollars in student loans to repay. While some people feel as though the price of their degree was worth it, many others aren’t so convinced. Truth is, student loans can be “good debt” for some people and “bad debt” for others. Let’s determine where it falls for you:  

1. Did you actually earn a degree? Many people finish high school and enroll in a college with good intentions to get their degree. Unfortunately, life doesn’t always work out as planned. Due to the rising cost of tuition, work obligations, competing expenses, or family responsibilities, some people may have to post-pone their college dreams. Accumulating student loan debt, without a tangible degree to increase your potential job opportunities and salary can be detrimental to your finances. If you obtained a degree then the student loans may be "good debt." If you didn't then they may be "bad debt." 

2. How much debt do you have? While getting a college degree is a notable accomplishment, it’s important to examine if you did so at a fair price. Some people get scholarships to pay for the entire cost, others have to maximize federal and private loans to cover their basic needs. Where do you fall on this spectrum? The more debt you have, the more you may have to consider whether the debt was worth the added benefit of the degree.

3. Were you able to get a job after graduating? Not all colleges are created equal. Some schools may be better at helping their graduates get jobs than others. Unfortunately, not all degrees are created equal either. Some degrees such as those in engineering or science may be more marketable or have better job prospects than others in language arts or history. If you earned a degree but are struggling to find a job with that degree, then it may be time to question if the loans you took out to get the degree was money well spent. 

4. Does the job you got earn you a decent salary? “Decent” can vary from person to person. The general rule of thumb is to make sure your student loans don’t exceed your [projected] income. For example, if you get a degree in education and the average salary for teachers is $45,000 then your student loans should not exceed $45,000. Some people extend this rule to 1.5x their salary, but usually anything more than can be challenging to pay back. Although these rules may not apply to everyone, having a general guideline can help us ensure that we aren’t borrowing more money than we’ll be able to repay. If you borrowed less than 1.5x your salary then perhaps the student loans were a good investment. 

5. Does the degree you earned lead to other opportunities? Taking out student loans can be about more than getting a degree to increase your pay. Aside from the job opportunities and salary the degree may or may not have afforded you, think about other opportunities. Did the skills you learned with the degree allow you to accomplish a lifelong goal? Did the people you met while getting the degree give you access to lucrative networks and people that can help you going forward? Did it provide you with invaluable life lessons, maturity, or the self-confidence needed to help you gather the courage to go after your goals with reckless abandon?

My point: Obtaining student loans to attend college is something that is commonplace. While the worth of a degree shouldn’t be judged purely on how much money it cost you or the job you obtained afterwards, one must be realistic. If student loans are going to be considered “good debt” then we must ensure they meet a few criteria. We should refrain from taking out much more than our projected salary, use the degree to advance in our careers, and leverage our time in college to obtain access to other invaluable opportunities.

Good Debt vs Bad Debt

As a young college student or post-grad, you may have accumulated credit card debt. I certainly did. However, somewhere in the process of “adulting” you may have realized that having lots of debt isn’t a good thing. You may have even heard investment gurus like Dave Ramsey preach that all debt is bad and insist that people do any and everything to rid themselves of the terrible “D-word” as fast as they can. This can be great advice in many circumstances, but some things aren’t so black and white.

If you’ve attempted to delve into the world of personal finance, you might have seen some investors adopt a more nuanced philosophy. They believe that there is “good debt” and “bad debt.” Let me explain.

What is “Bad Debt?”

Bad debt is usually consumer debt. It’s when you borrow money via a bank loan, credit card, or store financing to purchase things like cars, clothes, or electronics that lose value over time. Some people may even view some student loans as bad debt, especially if they have a substantial amount of loans that may take a long time to repay.

What makes it bad?

The things purchased with “consumer debt” usually depreciate or go down in value over time. Plus, the interest rate at which we borrowed the money to purchase these items is high. Because the item depreciates and the interest rate is high, you end up paying a lot more for these items than they are actually worth. Taking months or even years to over-pay for something that loses value is inefficient at best and a waste at worst. Plus, you exponentially delay your ability to build wealth since the money you spend making payments is money that isn’t going towards your investments or things that will build your net worth. Instead of earning 5-10% profit on your money inside of a retirement account or lucrative investment, you are instead paying an extra 5-10% on something that is now worth a lot less.

Pro Tip on Bad debt: Get rid of it. Since bad debt, causes us to overpay for things that decrease in value, we should get rid of it and stop accumulating more. We should work to pay off our car loans, credit cards, and other high-interest debt as quickly as we can.

What is “Good Debt?”

Good debt is usually “investment debt.” It’s when you borrow money via a bank loan or private loan to purchase things like real estate, businesses, or commodities that increase in value over time. Some people may even view some student loans as good debt if the degree they obtained with the student loans allows them to get a high-paying job they wouldn’t have gotten without the taking out loans.

What makes it good?

You were able to borrow the money at a low interest rate and purchase things that appreciate or go up in value over time. Getting a loan to purchase assets (things that increase in value) is considered good debt because you can theoretically sell the item, pay back the money you borrowed, and make a profit in return. In fact, this is one of the main ways people build wealth through real estate investing. Many investors borrow money to purchase a home (by taking out a mortgage) and use the tenant’s rent payment to pay off the mortgage over time. Some experienced real estate investors may even secure investment loans that allow them to purchase an entire apartment complex or commercial building. They work to increase the value of the building (by renovating it and raising the rents), then sell the building to another investor a few years later at price that allows them to pay back the money they borrowed and keep a large profit in return.

Pro Tip on Good Debt: Be cautious. While it may make financial sense to accumulate good debt to increase the number of assets you own, make sure you are in a financial position to do so. Having too much debt, good or bad, can put you at risk of defaulting on loans if unexpected events occur. Good debt is something to consider once all of the “bad debt” is gone and an investment opportunity you have studied extensively is presented.

My Point? Bad debt is bad because you borrow money at a high interest rate to purchase liabilities (that decrease in value over time) which can decrease your net worth. Good debt is good because you are able to borrow money at a low interest rate to purchase assets (that increase in value over time) which can increase your net worth. Get rid of bad debt, be cautious about good debt.