Avoiding the debt trap
Most ordinary South Africans live from pay-cheque to pay-cheque. We supplement lifestyles that we can’t always afford with expensive debt (the rate of interest we pay to borrow money) and often bemoan the fact that our incomes barely meet our daily living expenses.
So how and where are we supposed to find the money to save and invest? In a world of fast food, fast cars, living life in the fast lane and instant gratification, is it possible to get off the debt super-highway and onto the slow lane to financial freedom?
- Debt is a choice – we are often seduced by “easy money” without always considering its cost
- Saving is a choice – not always an easy one, but achievable with determination and discipline
- Behaviour – more than “hot tips” or being able to pick next years “sure thing” – drives investment success and financial freedom
The true cost of debt
Debt is about borrowing money to finance purchases that you don’t have the cash to pay for upfront. Debt is not always a bad thing. Most people can’t afford to buy a home or pay for a university education without borrowing money. These are examples of where the assistance of a loan – provided you can afford the monthly repayments – can help to achieve life-goals and actually help to improve your financial position over time.
“Bad” debt is the kind that is used to finance lifestyle purchases – furniture and appliances, clothing, holidays and entertainment – usually at exorbitant interest rates. The average retail store card or credit card charges around 22% per annum. Saving and making purchases when you can afford them – rather than on a whim – can save you thousands in interest a year.
It’s far too easy to spend more than you can afford - managing and controlling your debt is the first step toward obtaining financial freedom.
Many factors influence how you spend including emotions, habits and peer pressure. Start with a reality check – most people aren’t even aware of how much of their lifestyles are funded by debt. Figure out your spending patterns by writing down everything you spend money on over a few months and which expenses are funded by debt.
If you owe the bank or store cards charging high interest rates, the smartest investment you can make is to pay off the balance in full as quickly as possible. No investment can offer you returns of 20% per annum that “easy credit” is costing you. Even “good” debt should be managed – by paying more than the minimum required installment on your car- or home loan. You can pay off your debt sooner, and save thousands of rand in interest payments, which can then be invested for your future benefit.
Once you’ve paid off your credit cards, you can budget your income and begin to save and invest. This is a balancing act: it is about living within your means, and sacrificing immediate wants for future financial security.