At a Glance

Debt gets a bad rap because the term has such a negative connotation. Also, most people probably associate debt with owing the wrong people money (and sometimes, you might). But the truth is, there are plenty of different types of debt—and not all of them are bad. In fact, according to the Federal Reserve Bank of New York, the average American has more than $104,000 in debt, including student loans, personal loans, mortgages, and of course credit cards.

In this article, you’ll find:

Debt definition

What is debt? Debt is money you owe to a lender, creditor, or individual. Your debt may be in the form of a loan or line of credit, but either way you are expected to repay your balance by a specified date. Borrowers can get into trouble with debt when they start taking on more debt to pay off old debts.

Related: How to Pay Off Debt?

An example of debt

For millennials especially, debt can add up quickly. Nearly everyone uses credit cards, and around 45% of millennials in the U.S. have student loan debt2—so it’s not uncommon for you to be in the hole. We repeat: Debt is normal. The most important part is to recognize the problem (and potential damage to your credit if you plan on buying a house someday) and start paying it off any way you can.

In a previous Credello report about real-life debt snowball examples, Leslie Ann Spence (31) said she implemented the debt snowball method to reduce about $75,000 in student loan and credit card debt to roughly $28,000. She expects to be debt-free in the next three years.

How does debt work?

Typically, you borrow money with the understanding that you will pay back the amount later, plus interest. Simply put, interest is the cost of borrowing money. Your lender or bank charges you for borrowing, and your interest rate is usually expressed as a percentage of your outstanding balance. You might see the letters APR or annual percentage rate to represent the percentage of interest you’ll be charged.

Borrowing money ain’t free.

Types of debt

There are several different categories of debt and a few ways you can slice the pie. (We find that debt is more pleasant to think about when you look at it like pie.)

Secured debt vs. unsecured debt

Secured debt requires collateral—like your car or house—to guarantee the loan. Examples include:

  • Auto loans
  • Mortgages

Unsecured debt does not require collateral and is based on your creditworthiness, which is where your credit report and credit score come into play. Examples include:

Related: Unsecured vs. Secured Debt

Revolving debt vs. installment debt

Revolving debt is a type of debt that renews as you repay the borrowed money. This type of debt, often called credit, usually comes with a credit limit that’s determined by a variety of factors like your credit score/history, income, home equity, etc. Examples of revolving debt include:

  • Credit cards
  • Home equity lines of credit (HELOCs)

Installment debt is a type of debt that gives you a lump sum to repay periodically in scheduled payments. Installment loans often come as secured debt, but you could also get an unsecured loan with a good enough credit score. Examples of installment debt include:

  • Personal loans
  • Auto loans
  • Mortgages
  • Home equity loans
  • Student loans

Personal debt vs. business debt

You’d think this one is self-explanatory, but it’s actually more complicated than it seems. If you own a business, you’ve likely taken out a business loan at some point—whether you needed the money to get up and running or to secure retail/office space. Technically, any money you borrow to start or maintain your business is business debt. However, if your name is on the loan and you’re personally responsible for paying it back, then you’re dealing with personal debt.

Typically, unless your company is a huge corporation or you’ve established an LLC, your small business debt is also personal debt because you will ultimately be responsible.

Good debt vs. Bad debt

It might sound counterintuitive to describe any debt as “good,” but here’s what we mean:

What is good debt?

Good debt is debt that offers you a favorable return on your investment, whether it’s in the form of financial value or quality of life. Good debt can give you a place to live with a mortgage or prepare you for a higher-earning career with student loans. Examples of good debt could include:

  • Mortgages
  • Student loans
  • Business loans

What is bad debt?

On the other hand, bad debt is debt that does little to improve your life or financial situation. Bad debt is money you borrow or spend with no real return. Examples might include:

  • Credit card debt
  • Personal loans
  • Auto loans
Good debt helps your net worth, while bad debt hurts it.

Advantages and disadvantages of debt

So, now that we know there’s good debt and bad debt, it’s clear that debt has some pros in addition to its obvious cons. Let’s cover those cons first.

Cons of having debt

The biggest disadvantages of debt are:

  • You need to be disciplined. It’s too easy to fall into an unhealthy cycle of debt. But before you take on any type of debt, you need to be sure you’ll be able to dig yourself out of it—and if it’s worth going into in the first place. Once interest starts piling up, repayment could prove difficult.
  • You could lose collateral. If you’re dealing with secured debt—say, a mortgage or an auto loan—you risk losing your house or car if you default on payments.
  • You could damage your credit score. Missed payments and towering debt can hurt your credit and make it difficult for you to get approved for future credit cards or loans.
  • You might need to qualify. If you’re applying for new credit or a loan, you’ll need to meet the credit requirements to get approved. So, watch that credit score.

Pros of having debt

The potential advantages of debt are:

  • Access to money you otherwise wouldn’t have. Responsible borrowers make good use of debt—e.g., using a loan to start a business or using a credit card for a big purchase they can afford to earn a massive rewards bonus.
  • Predictable payments. Especially with installment debt and fixed-interest debt, you’ll be able to plan ahead and budget so you never miss a payment.
  • Improve your credit score. Paying off debt on time is a great way to boost your credit. Plus, having different types of debt adds to your credit mix, which can also raise your score (we know, counterintuitive).
    Related: How to Build Credit and Improve Your Credit Score?
  • Maintain control of your company. For business borrowing, you retain all the decision-making power in your business if you get a loan from a bank instead of giving up equity for capital.
Pro: Someone’s lending you money. Con: You have to pay back more than you borrowed.


How do you get out of debt?

The first step to getting out of debt is figuring out how much you owe in total and what types of debt you have. Next, you’ll want to create a budget and cut unnecessary expenses—and, if possible, find a way to create extra income every month. Then, it’s time to pick a DIY repayment plan or look into other options like debt consolidation, debt settlement, or bankruptcy.

DIY repayment plans include:

Debt consolidation options include:

How much debt is too much?

Your threshold for debt usually depends on your income. Typically, you want a debt-to-income ratio (DTI) that’s below 36%. Here’s how you figure yours out: Take your total monthly debt payments and divide them by your gross monthly income. Boom, that’s your DTI.

Learn more: How Much Debt Is Too Much Debt?

What type of debt has the highest consumer balance?

Mortgage debt is always the biggest contributor to consumer debt. Houses are expensive, and most people need to borrow a lot of money to afford to own them. (@Millennials: Houses are buildings where usually one family lives. You may have grown up in one, but you will likely never own one and you can blame that on your parents and grandparents.)

What type of debt is most common for millennials?

While credit card debt is common for everyone, student loan debt is the most common type of debt for millennials to have, specifically. In fact, nearly 45% of millennials have student loan debt,2 and the average millennial borrower carries almost $39,000 in student loan debt.3

If you’re working to pay off your student loan debt, you might consider consolidating your student loans—but it’s important to understand the pros and cons of student loan debt consolidation.

Learn more: Student Loan Debt Consolidation

Related: Millennials Share Their Financial Resolutions of 2021

Pro: Payday loans suck.

What type of debt should you pay off first?

When you start paying off your debt, you have options. You can prioritize your highest-interest debt to save money on interest payments in the long run—which is called the debt avalanche method. Or you can prioritize your lowest balance first to knock out one of your debt accounts quickly and prove to yourself you can do it—that’s the debt snowball method.

Choosing which debt to pay off first may depend on several factors, including:

  • The amount of debt you’re in
  • Your monthly income/ability to pay it back
  • Your budgeting
  • Your confidence in paying it back
  • How much you can save on interest

To help you decide, we recommend using our debt payoff calculator.