Credit Scores & Good vs. Bad Debt
Your credit score summarizes how reliably you repay. The biggest factors: paying on time and how much of your available credit you use.
Keep credit card balances under about 30% of the limit — under 10% is better. Pay in full to avoid interest.
Good debt buys something that can grow in value or income (education, a sound business, a home within budget). Bad debt funds things that lose value at high interest.
A 24% credit card balance doubles in about 3 years if unpaid (72 ÷ 24).
In commonly used credit-scoring systems, payment history is usually the most important factor. It records whether you have made debt payments on time or missed them. Your income and which bank you use are not direct scoring factors in these systems, though lenders may consider income when deciding whether to lend. Scoring rules vary by country and system.
With the avalanche method, you make minimum payments on all debts and put extra money toward the debt with the highest interest rate. With the snowball method, you put extra money toward the smallest balance instead. A rollover means extending or renewing a debt when it comes due, often with added costs; it is not the name for either repayment method.
The Rule of 72 estimates how many years an amount takes to double through compound interest, meaning interest added to the balance also earns interest. Divide 72 by the annual interest rate written as a percentage number. At 18%, the estimate is 72 ÷ 18 = 4 years, assuming no payments, new borrowing or fees. The actual time depends on how often interest is added.
A loan’s term is how long repayment lasts. To compare these loans’ total dollar costs, add up all scheduled payments and any fees not already included in them. For equal monthly payments, multiply the payment by the number of months, then add those separate fees. APR means annual percentage rate: a yearly measure of borrowing cost that includes interest and certain fees, depending on local rules. Neither APR nor the monthly payment alone tells you the total dollars repaid; a longer term can make smaller payments add up to more overall.
You, think about the next big purchase you want to make. Is it something that will lose value, like a new phone, or something that could increase your income, like a professional tool? This can help you decide whether to save for it or consider borrowing.
Learning objective
Evaluate borrowing by total cost, affordability and repayment risk, not a good-debt label.
Understand the mechanism
Credit scores vary by country and scoring system. Payment history and revolving-credit use commonly matter, but the often-quoted 30% utilization level is not a magic safe threshold. Paying statements in full and on time avoids many card interest charges, subject to terms.
No debt is automatically good because it funds education, property or a business. Ask whether the expected benefit can justify the cost and whether you can afford payments in a bad month. Secured debt can put a pledged asset at risk; variable rates can increase payments.
Put it to work
Read the APR, fees, payment schedule and consequences of missing a payment. Compare total dollars repaid for offers with the same amount and term. An affordable-looking payment can hide a long, expensive loan.
Build a repayment list and protect minimum payments first. The avalanche method targets the highest rate to reduce interest; the snowball method targets the smallest balance for momentum. Either requires consistent payments. Check official local credit-report access and avoid services requesting unnecessary sensitive data.
Worked example
- 1
A $1,000 balance at 24% APR has roughly $20 interest for a month if approximated as 24% ÷ 12, before payments and fees.
- 2
Paying $50 would reduce principal by roughly $30 in that simple illustration.
- 3
A $1,000 purchase paid in full before interest applies can avoid that cost; a 0% offer may still carry fees or later rates.
Borrowing is a contract with cash consequences, not a free increase in spending power.
Your practice lab
Compare a $500 loan repaid as $550 with another repaid as $540 plus a $25 fee. Which has the lower total cost? What else must you compare?
Personal scratchpad · not graded or saved
Maya's Debt Crossroads
Maya, a 22-year-old, needs a car for her new job and wants to take a professional certification course to advance her career. She's been approved for a $15,000 car loan at 8% APR and a $5,000 personal loan at 12% APR for the certification.
Remembering the lesson on good vs. bad debt, she analyzes both. While the car is necessary, it's a depreciating asset. The certification is an investment in her future income, a hallmark of 'good debt', but its loan has a high interest rate. She realizes that even 'good' debt can be a bad deal if the terms are poor.
Maya decides to take out a smaller loan for a more affordable used car. For the certification, she forgoes the high-interest loan and creates a strict budget to save and pay for it with cash over the next six months, avoiding debt entirely for that goal.
Evaluating debt isn't just about labeling it 'good' or 'bad.' It's about analyzing the true need, the total cost, and exploring alternatives to borrowing, like reducing the purchase amount or saving up first.
Illustrative example — names and figures are composites for teaching.
How will you approach debt? Define your personal rules for when you would consider borrowing money and what your primary method for paying it off will be (e.g., avalanche, snowball, or paying in full).
Example: I will only take on debt for an appreciating asset like a home or for education that directly increases my earning potential. I will avoid credit card debt by paying my balance in full each month. For any installment loans, I'll use the avalanche method to pay them off early.
Go deeper — outside resources
- MyMoney.gov — learning hub · MyMoney.gov
Key ideas
- On-time payments matter most
- Keep utilization low
- Debt is a tool — judge what it buys
Try it: List your debts by interest rate. The highest-rate one is your first target.
Quick check
1. Which factor matters most for a credit score?
2. Paying off the highest interest rate first is called…
3. Sarah has a credit card with a $5,000 limit. To best manage her credit score, what is a good target for her balance?
4. According to the lesson, which of these is the best example of 'good debt'?
5. Using the 'Rule of 72' mentioned in the lesson, approximately how long would it take for an unpaid debt at a 18% interest rate to double?
6. Alex is comparing two car loans. Loan A has a lower monthly payment than Loan B, but it has a 72-month term while Loan B has a 48-month term. What should Alex focus on to understand the true cost?