How debt works
Nobody ever explained debt to me. They just offered it. A store card at the till, a loan app on my phone, an overdraft I never asked for.
Debt is money you borrow now and promise to pay back later, usually with extra on top. Here’s the simplest way to think about it:
Debt is spending your future income today.
That isn’t always bad. But every time you borrow, part of next month’s pay (or next year’s) is already spent before you earn it.
The words you need to know
- Principal: the amount you borrowed.
- Interest: what the lender charges you for borrowing, usually as a percentage.
- APR (annual percentage rate): the yearly cost of borrowing, including interest and most fees. It’s the best number for comparing one loan with another.
- Term: how long you have to pay it back.
- Minimum payment: the smallest amount you’re allowed to pay each month without a penalty. It’s not the amount you should pay.
When can debt make sense?
Debt is a tool. It can help or hurt, depending on what it’s for and what it costs.
It can make sense when it helps you build something worth more than it costs, at an interest rate you can manage: a home you’ll live in, an education or skill that raises your income, or equipment for a business that pays for itself.
It’s usually a bad idea when it pays for things that lose value or are gone quickly: clothes, gadgets, nights out, holidays. You’ll still be paying long after the fun has ended.
My rule now: if I can’t explain how this debt makes my future better, I don’t take it.
Three questions before you borrow
- What’s the total cost? Not the monthly payment: the total you’ll pay back, including interest and fees.
- Can I afford the repayments, even in a bad month?
- Could I save for it instead? If you can wait, saving is almost always cheaper.
