We recognize two types of debt – productive and non-productive. The healthy use of productive debt can be prudent and accepted. The use of non-productive debt is generally discouraged.
Productive debt is money borrowed to secure assets that may appreciate or that have productive uses in a business. For example, someone may have to borrow to buy into a business or buy a piece of equipment for the business. Mortgages are also an example of debt on an asset that may appreciate in value over time.
Non-productive debt is money borrowed to purchase depreciating assets like clothing and household goods. These items have no chance of future appreciation since they are used up over their lives.
We suggest that additional debt payments be made towards non-productive debt first, as this debt has the least value to a person’s financial position. If there are multiple debts, we suggest paying on the debt with the highest interest rate first. This ensures you save the most money over time. There are also times when paying off the smallest debt to eliminate payments quickly may be preferred. This is called the debt snowball. Money freed from the eliminated debt payments is then applied towards the larger debts to accelerate their pay offs.