9 essential debt basics every adult should know

Debt is a way to cover an expense and pay for it over time. Sometimes it can be exciting to go into debt (think new car or a home). It’s not so fun to struggle with credit card bills that never seem to end. In a perfect world, debt is a tool that helps you reach your goals. The type of debt and reason for the debt matter. Learning the basics could tell you whether your debts are helping you live your best life or dragging you down.

Here are 9 basic facts to know about debt.

Related: Meet the Achieve GOOD app (Get Out Of Debt)

1. Debt defined

Debt is money you borrow and are obligated to repay. You’re usually charged interest when borrowing money. You might also pay fees. 

2. Debt isn’t necessarily bad

Debt is good if it helps you reach a goal. That goal could be to improve your quality of life, improve your ability to earn a good living, or help you get something that is likely to be worth even more money in the future. This is why people often borrow to buy a home or a car, or to get a college education. 

3. Debt can be bad

Debt can be bad. Here are some characteristics of bad debt:

• It has no tangible benefit (like credit card debt for overspending)

• You can’t afford the debt

• The cost of the debt is very high

• The thing you borrowed for is worth less than the amount you owe

4. Some debt is necessary

Some types of debt are almost unavoidable. If you don’t have hundreds of thousands of dollars in your bank account, buying a home usually requires a mortgage. That can be a good debt if it improves your quality of life. As a bonus, a mortgage could also help you build wealth in the form of real estate ownership. 

Emergencies such as home repairs may also require a loan, and the same goes for healthcare costs. 

5. Debt is either secured or unsecured

Some debt is secured. That means you pledge something valuable as a guarantee that you’ll repay the loan. That something valuable is called collateral. For instance, a car is the collateral for a car loan.

Collateral lowers the risk to the lender because if you fail to repay the debt, they could take your collateral and sell it to recover what they are owed. Because of the lower risk, secured loans typically cost less than similar loans that aren’t secured by collateral. 

Some debt is unsecured. That means there is no collateral. Most credit card debt is unsecured. Since the lender doesn’t have a safety net in the form of collateral, unsecured debt usually costs more than secured debt.  

6. Debt is either revolving or installment 

Revolving debt means you can borrow, repay, and borrow more repeatedly, up to your limit. This is how credit cards and home equity lines of credit, or HELOCs, work. 

Installment debt means you pay off the debt in equal installments (payments). You’ll make the same payment every month for a set period of time. When you first get the debt you’ll know exactly when the loan will be paid off, as long as you make all of your scheduled payments. This is how personal loans and car loans work.

7. The interest rate can change…or not

Interest is the cost of owing money. It’s calculated as a percentage of what you owe. 

A fixed interest rate stays the same for the life of the loan. 

A variable interest rate (most credit cards) or an adjustable interest rate (some mortgages) can change. Economic factors cause interest rates to change from time to time. Lenders keep an eye on certain interest rates (called benchmark rates) and then charge their own customers accordingly. If market rates go up, lenders could raise your rate if it’s a variable or adjustable rate. If market rates go down, the lender could lower your rate.

8. Getting rid of debt could improve your emotional well-being

Generally speaking, people without debt express higher levels of life satisfaction. According to one study, people with medical debt had the lowest levels of life satisfaction out of any group.

9. There’s a solution for every debt problem

Lots of people fall into deep debt, for many reasons. Even so, there is a way out of every debt situation. When you need to deal with your debt, you have choices. Here are some strategies you could consider.

• DIY payoff method. A DIY payoff method is a plan that you design and control. You could try the debt snowball or debt avalanche method and pay your debts off yourself, one at a time. In a snowball, you pay as much as possible toward the smallest debt. In an avalanche, you focus on the most expensive debt. All the while, you continue to make minimum payments on your other debts.

• Debt consolidation loan. If you have expensive debt but can qualify for a new loan at better terms, consider consolidating your debts. That means taking a new loan and using it to pay off multiple smaller debts. It could be a good idea if it helps you lower the cost of your debt or get a smaller monthly payment.

• Debt resolution. If you have a financial hardship that prevents you from being able to fully repay your debts, you could ask your creditors to accept less than the full amount you owe. You can negotiate with creditors yourself or let a reputable debt resolution company negotiate on your behalf.  Debt resolution could be a good option to consider if you’ve already fallen behind on your debts and you don’t think you can catch up. 

• Debt management plan. If you can afford your debts but you need help straightening out your finances, consider working with a credit counselor. If you need one, the credit counseling agency could set up a debt management plan for you. This is a payment plan designed to fully pay off your debts in three to five years. Because of the short timeframe, the monthly payment may be high.

Debt should be a tool you can use to get closer to where you want to be in life. Debt could, however, drag you down and hold you back. If you’re not sure about your own debts, it’s a good idea to talk to a debt expert who can help you decide what your best course of action may be.