Debt, it all stacks up

By Drum Digital
24 July 2015

The good, the bad and the ugly as the One Rand Family reviews their finances

AFTER counting all their R1 coins, the One Rand Family’s head, Sbu, was shocked to see how much money his family spends on cars and credit card debt each month.

The amount they owe and repay on their credit and store cards a month forced him to ask: “Why are we not putting that money to better use?” The family realised this debt amounts to more than one month’s worth of bond repayments and costs them a lot in interest than necessary. “Short-term debt costs the most but we keep paying the minimum amount,” says Sbu.

They may be enjoying the finer things in life right now, but at what cost to their future? This week it’s time to look at the different types of debt.

Karin Muller, Head of Growth Market Solutions at Sanlam Personal Finance, explains the difference between good, bad and ugly debt.

Good debt

Improves your overall financial picture – a house or student loan are good examples. Even though you are paying interest on a house, you can also make money off it if you sell the asset for a profit. If it pays for studies, it should help you earn more in future. But make sure you can afford it. Even good debt can impact your financial wellbeing.

Bad debt

Sometimes this type of debt is necessary, for instance when buying a car. It’s always better to pay cash, but this isn’t always possible. Keep bad debt to a minimum if possible. Don’t buy the top of the range car. Rather buy a cheaper, second hand or demo model. Understand the total implications of the contract and what you will be repaying in total – including any balloon payments.

Ugly debt

This form of debt involves buying things you can’t afford, and don’t need, on credit. This is a common trap many South Africans fall into. We buy a pair of leather boots or a big-screen TV on credit and then spend months or years paying it back. In the end we pay far more for the boots than the actual cost because of the interest.

Top Tip: Take a five-minute break before purchasing and ask yourself: Why are you buying this? Is it to boost your ego or will it add value to your life? How much will it really cost? Will you need to sacrifice something else?

Do this: Instead of getting into debt, harness the power of saving through compound interest. This term means “earning interest on interest”. It allows your money to snowball up (if it’s in a savings vehicle) or down (if you are paying back debt).

Sanlam is a licensed financial services provider 

Find Love!