What is Bad Debt?

Photo by Stormseeker on Unsplash

Table of Contents

1. What is Bad Debt?

2. Examples of Bad Debt

3. What to do When you owe so Much?

4. How Much is too Much?

What is Bad Debt?

Bad debt or 'doubtful debt' in accounting is a receivable that the creditor is unlikely or unable to get paid for: A bad debt results when the debtor becomes bankrupt or the creditor is unable to collect the payment.

Bad debts are often written off and estimated as part of an organization's expenses.

In this context, we are going to be looking at bad debt from the eye of the debtor. The term "bad debt" will be taken to mean huge loans that the debtor has no means of paying back.

Anyone could have these huge debts: You could have had many shiny credit cards, as your younger self, completely unaware of the financial implications. Or take the case of a shopping spree; many designer outfits later, you now have huge loans to pay.

Some people get lucky enough to find jobs that pay enough to cover those loans later in life. Others are not so lucky: in this article, I will be walking you through identifying your bad debts and paying them all off.

Examples of Bad Debt

1. Credit Cards:

A good number of people can't get a good night's sleep because they are worried about the financial deficits their credit cards have put them in.

According to data from the Federal Reserve's Survey of Consumer Finances in 2019, the average credit card debt for the US family is $6,270. This might not seem too worrisome, but credit card loans can add up to large debts that can be difficult to pay.

As of September 2021, a study done on US credit cards revealed that the credit card loan interest rate was 16.22%. The Lending Tree also reported on their website that Americans were in $787 billion of credit card debt.

Credit cards might seem great to have, but not knowing the financial consequences of lavishly using that card is financially dangerous.

2. Payday Loans:

Payday loans are quick loans designed for workers to get some quick cash before their next payday. In most cases, these loans do not require a credit score: anyone over the age of 18 and employed can easily obtain a payday loan within minutes.

The thing about payday loans is that borrowing some quick cash before your salary comes in may leave you in a financial deficit especially if you do not have a good budget.

In addition, payday loans have a higher interest rate than general loans: Borrowing $100 would leave you with charges from $15 to $30, and the loans are usually paid in one lump sum. Payday loans may seem quick, but they could leave a big hole in your paycheck when payday arrives.

3. Automobile Loans:

One thing you should know is that unless you intend to run a car rental business or attract high-value clientele, expensive cars are not an asset.

Automobile loans have American citizens dealing with a large debt that sums up to $1.18 trillion in total. The average car loan for a new car is $32,187 and that of an old car is $20,137. The loan amounts are however higher for people with better credit scores and interest rates average 4.74%.

Not so bad right? Unfortunately, auto loans take many months to repay, and paying them continuously for months could leave you crying every time you check your account balance.

What to Do When You Owe So Much?

1. Relax: Being in debt can be a nightmare: having so many debts to pay can induce anxiety in some people.

However, if you discover that your loans are so huge that they are taking a huge chunk of your income, it is best to relax and clear your mind so that your thoughts can be organized.

2. Make a list: You can write down all the loans you need to pay in order of amount, due dates, and consequences of defaulting on the loans.

Apps such as Lending Tree, Loan Calculator or Notebook can be used to make the documenting process easier.

3. Cut some costs: Reduce any expenses that may limit your ability to pay loans.

Designer outfits, fancy dinners, and expensive dates may be kept on hold for a specific period. Stay within a fixed monthly budget and try not to exceed that budget. 

4. Sell some stuff or services: That fancy coat you only wear once a year, put it out for the yard sale. Run through your closet and sell any item that you know you do not need.

Offer to help your colleagues, friends, and family with services that you can provide for a small fee: it could be running an app, UX design, or fixing an old smartphone. Sell your services on freelance websites like Upwork and Fiverr, then make some money.

5. Pay your loans: Pay your loans in order of importance: interest rate and consequences of defaulting are very important here. Start with the larger loans, the loans with a high-interest rate, and the loans that significantly affect your credit score.

Set a target period of complete payment of all the loans and try to pay off all loans before that period. Do not overwhelm yourself with the payment: set aside a small amount for your basic needs. Ensure that your payment goals are realistic and measurable: congratulate yourself for each payment.

How Much is too Much?

A large percentage of the American population is in debt: Almost everyone owes some money.

However, when your loans are so huge that most of your income is spent on loan repayment, you may have a problem on your hands.

The subject of debt is also relative: an entrepreneur who has obtained a loan to expand their business may make a significant profit and easily repay the loan.

On the other hand, an entry-level worker who has taken a car loan for a brand new car may find loan repayment difficult.

A credit score is another way used to gauge financial responsibility and debt: borrowers who default on payments have a lower credit score and are not likely to be given loans in the future.

If you find your loans spiraling so much that your pocket is draining, and your worries are increasing because of your large debts, you probably owe too much. The good news is that you can pay off your debt and live a financially fulfilling life.