Debt: The Good, Bad, and Ugly

Last month’s column was the first of a two-part series on budgets and debt.

Last month’s column was the first of a two-part series on budgets and debt. I shared with you how budgets can help you achieve your dreams and goals. This month, I’ll focus on debt ... how to distinguish the good from the bad.

Like the word budget, debt, too, is a term that for many elicits a stomach-churning kind of anxiety. And based on the trouble many people find themselves in when credit cards get out of hand, as debt payments swallow a chunk of their income, the anxiety is justified.

But the truth of the matter is, debt - when carried in the right place and in the right proportion to one’s income - is a good thing.

For example, debt in the form of a mortgage or student loan is “good debt.” It helps you achieve your goals, and can also help you leverage your wealth.

In fact, debt is necessary if you are to establish the all-important credit rating, as many of you already know. (Try taking a loan without one, or with a poor one!) Unfortunately, scorching one’s credit score can take just a couple of months, while restoring it to a favorable range takes much, much longer.

As a rule of thumb, your mortgage debt should not exceed 28 percent of your gross income, while your total debt should be limited to no more than 35 percent.

Even though it is smart to carry a mortgage, it’s even smarter to make sure you have the best rate possible. This is something you should be checking quite often. With interest rates at historically low levels, now is a great time to renegotiate your existing mortgage. This is an easy way to reduce your monthly payments.

A number of resources are available to check the going rates. One reliable Web site is If you see rates lower than you are currently paying, contact a mortgage broker.

One more suggestion related to mortgages: Make sure you have adequate disability insurance. Ninety percent of all home foreclosures (debt) occur due to disability. This insurance is your safety net in the event of an unforeseen disability.

Now, when it comes to “bad debt,” at the very top of the list are credit cards. You can avoid incurring interest by paying off your credit cards every month. Interest rates charged on credit card balances are exceedingly high - sometimes as high as 24 percent! And, unlike your mortgage, the credit card interest you pay is not tax-deductible.

If you have been following my columns, you know that one of my mantras is, “Don’t spend more than you make.” If you adhere to this important principle, then you will be free of credit card debt.

Just remember, debt is a good thing … as long as you hold to the healthy kind and keep it in correct proportion to your income.

Kathy B. Paal, MBA, CFP, RFC, CTFA
Ms. Paal is a certified financial planner at Heritage Financial Consultants in Lutherville, Md., and is an investment advisor representative, registered representative, and licensed insurance broker with Lincoln Financial Advisors Corporation, a registered investment advisor and broker-dealer (1300 York Road, Lutherville, MD, 410-339-6675). You may email Kathy at KPAAL@LNC.COM.

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