Learn → Debt

How do I know if a debt is expensive?

Compare the rate against what you could realistically earn by investing over many years, and be pessimistic about the investment. Anything above that line costs you more than it could ever make you. In practice that puts credit cards, overdrafts, store cards and short-term consumer credit clearly on the expensive side.

The test

There is no universal threshold, because it moves with prevailing interest rates and with what investments are realistically returning. But the comparison is stable:

Is this rate higher than what I could reasonably expect to earn on my money over a long period, assuming things go averagely rather than well?

If yes, the debt is expensive. Every unit you send to it earns you that rate, guaranteed, which is a better deal than an uncertain investment return — and every unit you do not send costs you the difference.

Be pessimistic on the investment side of that comparison. Investment returns are uncertain, arrive unevenly, and are reduced by costs. Debt interest is certain, arrives monthly, and is not reduced by anything.

Where things usually fall

Clearly expensive — credit cards, overdrafts, store cards, payday and short-term consumer credit, buy-now-pay-later once any promotional period ends. These sit well above any plausible investment return. Clear them fast; there is no sophisticated argument for carrying them.

Clearly not urgent — long-term mortgages at modest rates, and subsidised student lending in countries where it is priced below market. Worth repaying eventually, not worth panicking about.

Depends entirely on the rate — car finance, personal loans, family lending. The label tells you nothing. Find the actual rate.

Read the rate, not the payment

The most common trap: judging debt by whether the monthly payment feels affordable.

A long enough term makes almost any payment look manageable. Stretch a loan over seven years instead of three and the monthly figure drops satisfyingly — while the total interest rises substantially. Affordability and cost are different questions, and the seller is usually answering the first one.

Two things to look for:

The annualised rate, not the monthly one. A “2% monthly” rate is roughly 27% a year once it compounds, not 24%, and certainly not “2%”.

The total amount repayable, which lenders in many countries must disclose. Balance minus total repayable is what the borrowing actually costs, in currency, with no percentages to misread.

Zero-percent offers

Genuine zero-percent periods are genuinely cheap, and using one deliberately is fine. Two things to check:

What happens at the end. The rate afterwards is often high, and it may apply to the whole remaining balance. Know the date and have a plan to be finished by it.

Whether there is a fee. A 3% balance transfer fee on a two-year zero-percent deal is roughly 1.5% a year — cheap, but not zero, and worth including in the comparison.

The number worth knowing

For each debt, work out what it costs you per month in interest alone. Not the payment — the interest.

Most people have never seen that figure, and it lands harder than any percentage. A 3,000 balance at 22% is costing about 55 a month simply to exist, before anything is repaid. That is the number that tells you how urgent it is.