Debt counsellors see a surge in applications around February every year as the wheels fall off after the excesses of the festive season and the school fees are due in January. If you’re in debt, you’ll know the feelings of helplessness and desperation that can paralyse you. The thought of how to start getting out of debt seems overwhelming. But believe it or not, many people have managed to budget their way out of debt – and if they can do it, so can you.
What does it mean to budget your way out of debt? Simply put, you work out how much it would cost you each month to reduce your debt, based on what you earn and what your other financial commitments are. Nobody expects you to pay off your debt in a month. You have to plan your repayment.
Break it down
With a budget, everything becomes achievable as you break down seemingly huge amounts into manageable portions.
Draw up a budget that takes into account all your income and all your expenses. Once you know how much money you owe, look at which creditors you need to pay first, and how much you will need to pay each month. Work on reducing the debts that carry the most interest first. Then use a calendar to mark off and keep track of all your payments.
Finding the extra cash
Finding the extra cash is a bit like dieting. While you are trying to shed those extra kilograms you need to eat fewer calories a day than normal. However once you are at goal weight you can eat a balanced diet with a higher calorie count which will maintain your weight.
So it is with paying off debt. You need to cut back on non-essential items like entertainment, DSTV and clothes shopping until you are debt free. Then you can adjust your budget later to include those things that you can afford without putting you back into debt.
Even for those essential items that you need each month, such as groceries, electricity and water, you can find ways to cut down if you put your mind to it. You can be more careful about your water use, or save on your electricity bill at home by using only truly essential appliances. You can also cut down on grocery bills by looking out for store specials. You can save up to R200 a month on groceries if you shop around and identify specials. Every little bit helps. Then you can put that saving towards repaying your debts.
Pay off your most expensive debts first
By ‘expensive’, we don’t necessarily mean the biggest amount. We mean focus on reducing your short-term debts first, because those loans actually end up costing you the most. These would include micro-loans, credit cards, personal loans and overdraft facilities.
The best return: If the interest on your loan is 25% a year and you pay this off with your bonus, you effectively receive a return of 25% because this is money you do not have to pay to the bank. Paying off this debt is the best guaranteed return you will ever get from any investment.
Psychological boost: These loans also tend to be for lower amounts so you can set reasonable goals to pay them off over a short period of time which is a good psychological boost. The money that you were spending on paying off these debts you can then use to either increase the repayments on your house or car, or start a savings fund.
Don’t miss payments
You must always be sure to pay your home loan. Never miss your bond repayments because you could sit without a roof over your head. This is one instance where borrowing is a necessity and is actually an investment in your future.
Don’t miss a payment if you can possibly help it, because this will affect your credit rating. Don’t think that missing one or two payments won’t matter – it will matter to the credit bureau, which determines your credit rating with borrowers. Don’t impair your ability to borrow in future because you can’t manage your debts now.
Budgeting for a loan
Remember when you borrow money, you still need to budget for this, as you would for anything else. Borrowing costs money! When you budget for a loan, be sure you can afford the repayments. Sit down and work out how you’re going to budget to repay it. How much will you need to pay each month? If other line items become more expensive (rental, electricity, transport), will you still have enough money left over to service the loan? If the petrol price, for example, goes up next month, how will this affect your transport costs?
If you have borrowed for non-essentials, such as designer clothes, a holiday or a flat-screen television, and you haven’t set aside money to fund your children’s education or your pension, this qualifies as irresponsible borrowing. Unless you’re borrowing for a home or perhaps education, you’re not building your financial future. It’s vital that you change that behaviour now.
Only borrow what you need. Do not take out credit for things you can pay cash for or those that you can save money for and pay cash at a later stage. Borrow only to buy assets that appreciate.
If you can’t afford to repay the loan and still meet your living expenses, you’ll be caught in a debt cycle. You could end up damaging your credit rating as well as compromising your ability to borrow in the future. If you fall behind in your repayments, you can be blacklisted and even lose your home or car. So be very careful when it comes to debt. Do you understand the agreements you are signing? Are you able to repay the debt, given the amount you earn and the terms and duration of repayment?
The good news: you can still save if you’re in debt
If you’re in debt, saving may be the furthest thing from your mind yet using the same budgeting principles, you can also budget to save. How is this possible?
Let’s assume you are managing to repay your debts each month. Perhaps you can find R50 or R100 at the end of the month to put in the bank. You can consider opening a 32-day notice account, for example. R50 may not seem like much, but each R50 adds up. Provided you can leave that money untouched, you can build up a small saving. Having an emergency savings plan is just as important as paying off debt otherwise the next emergency puts your right back into a negative position so make a place for this in your budget.
The most important tip here is to be realistic about how much you can afford to put away. Don’t plan on saving R1 000 if you can only manage R100! R100 is enough. Do what you can and you will feel empowered. Saving at the cost of not repaying your debt makes no financial sense.
This kind of ‘saving behaviour’ is important, not only because it shows you that you can save and you can take control of your finances, but because your bank will sit up and take notice. If your track record shows you made an effort to save, while managing to service your debt, it will stand you in very good stead if you’d like to borrow in the future.
Tips for borrowing
- Make a loan term as short as possible – avoid paying over too many months as it will cost you more in the end.
- Don’t be tempted by attractive deals on new credit cards, such as not paying fees for a set period of time for the card or offering you points and benefits the more you spend on your card. All debt carries a cost eventually.
- Take advantage of the low interest rates to pay off as much debt as possible. Prioritise your home loan during this time. You could save thousands in interest costs over the longer term.
- Shop around and compare interest rates and other costs from different credit providers before entering into an agreement. Use the pre-agreement statement and quotation to assist you to compare.
- Read the small print. Understand each clause and ask for help if you don’t understand certain terms and conditions. Be aware of “no deposit” deals, which can work out to be highly expensive over time. Remember it’s your right to be given documents in plain and understandable language. This means that the contents, meaning and importance of the document must be easy to understand.
- Be aware that interest and fees are regulated by law, so check the interest rate you are being charged.
- Start saving consistently and seriously for your retirement years from the day you start working. Put aside at least 15% of your income every month in a safe investment.