GOOD DEBT AND BAD DEBT
A bit of advice on debt this week after a report that more than one in
three households saw their income decline in May. And a warning from the
Government’s Office for Budget responsibility that debt is going to rise as more
people turn to borrowing to pay for the basics like food, fuel bills and rent.
Borrowing is not bad in itself. But borrowing without knowing what it
costs and how to pay it the debt back are.
Check your overdraft rules. Overdrafts can be cheap but they can also be
very, very dear. If you have a cost free ‘buffer’, often £250 or more, then
going overdrawn for a few days can be very cheap borrowing. But if you go
overdrawn accidentally – or exceed your free ‘buffer’ – the cost will be very
high with daily fees or penalty charges for bouncing or making payments. The
banks do not have to give the Annual Percentage Rate (APR) of these charges but
if they did many would be in the millions of percent. Remember that money spent
on your debit card comes straight out of your current account and can send you
into an expensive overdraft.
Check your credit card interest rate. Some credit cards do offer
reasonable low interest rates. If you have more than one card check which is
cheapest and use that. Or, if you have a reasonable credit rating, take out a
new card with 0% charge on purchases. But always have a plan to clear that debt
before the 0% deal ends. Credit card debt that hangs around can cost a lot.
£1200 debt at 20% will cost you £240 a year – £20 a month – just to pay the
interest.
Personal loans can be a good way to finance big purchases. It is nearly
always better to get a loan from your bank than to get a loan from the firm you
buy the goods from. Interest rates are usually high and the loans very
inflexible.
Payday loans should be avoided. These offer short term loans of modest
amounts of money to tide you over to the next pay day. Logbook loans are similar
but are secured against your car or motor bike. They can be arranged quickly,
sometimes just with a phone call. But they are very expensive with APRs of more
than 1000%. Often you will be encouraged to roll over a loan you cannot repay
and end up in serious debt. Just say ‘no’.
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