Debt is something most people find themselves incurring. And it is not difficult to understand how one gets into debt. We have such easy access to credit cards; retail accounts for furniture, clothing, appliances; and regular offers to apply for small loans. Have you noticed that you qualify for a loan without having applied for one?
Elena Bevilacqua a Certified Financial Planner ® professional at Fiscal Private Client Services says, “This type of easy debt can be dangerous. Before you know it, you are paying off more than one account, every month with no-end in sight! And worse, the debt seems never-ending.
“To understand why you are in debt, you need to look at your spending habits. Spending is spurred on by a number of unique factors such as the compulsion to buy; the habit of going to the mall or visiting your favourite online shopping site despite not having money to spend; poor or no personal financial planning; or the buy-now-pay-latersyndrome – which is possibly the biggest culprit of debt.”
The reasons for incurring debt are both vast and complicated but commonly include materialism, entitlement, a big life event – such as a wedding, or the misfortune of an unexpected crisis. And before you know it, you are in the four-letter word, debt – and debt must be paid back.
Bevilacqua explains, “Not only are you stuck with owing the outstanding amount, but you also have to repay the cost of this debt – in other words the interest charged on the original outstanding amount. And the longer it takes you to pay your debt back, the more interest you are charged.”
Illustrating the cost of debt, Bevilacqua gives an example of a large appliance, such as a TV that cost R3999.00. “You decide to pay it off and your repayments are R290.00 per month over 24 months. This sounds too good to be true. But is it? The total amount you will repay is R290.00 x 24months = R6960.00. So, a TV that sells for R3999.00 ends up costing you 174%more than the advertised cost!
“To avoid the debt trap you could have considered a second-hand TV, or asking friends and family if they have a spare one to lend you until you can save up and afford one of your own, or shopping around to see if you can buy it cheaper somewhere else. You should also be asking yourself if you need the new TV or if it is simply nicer than the one you already have? Or consider a cheaper brand, or a smaller TV”
The reason why debt is a four-letter word is because it is easy to accumulate and easy to obtain. And can be very difficult to get out of.
Debt that may be harder to obtain is debt for larger loans! For example, if you want to purchase a property. You will require certain criteria to qualify for these loans and your repayments will typically be over a longer period. Provided you are in a position to afford the repayments, here your debt can assist you to grow your asset. For example, you purchase a property for R600 000 and the interest you owe on the loan + purchasing expenses work out to R250 000. After 10 years, you sell the property for R950 000. Therefore R950 000 less R850 000 equals R100 000 profit.
Whether you have long or short-term debt, or both – one needs to understand what you owe and how much cash flow is required to maintain repaying the debt.
For those with scary debt levels, Bevilacqua has some practical advice, “Ask yourself these questions:
- How much do I owe?
- Who do I owe this debt to?
- How long is my debt term?
- What percentage interest am I paying?
- What is the end price after the interest is included?
“Consider approaching your bank to discuss your debt. Negotiate a better interest rate, or a shorter repayment term, or a higher repayment every month. And if you are going to use the services of a Debt Counsellors, ensure they are registered!”
The objective of getting a handle on one’s debt is so that you can work towards both reducingdebt and freeing up money to put into an interest-bearing savings platform.
Bevilacqua explains that there are so many positive reasons for saving including having money for unforeseen events and emergencies; long-term peace of mind by putting money into a retirement so that you have an income after you retire; and for the niceties of life such as a holiday or home renovations.
Her last piece of advice is to actively implement plans to reduce your debt and increase savings. Financial freedom comes with getting out of debt and putting that money into investments where you can watch it grow. To quote the wise words of Warren Buffett, “Do not save what is left after spending, but spend what is left after saving”
Source: Fiscal Private Client Services (Pty) Ltd