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Debt has been in the news a lot lately… from the liberal use of credit cards to shockwaves through Europe as Greece gets bailed out of a huge debt mountain following years of reckless governance.
Debt is in fact the single greatest destroyer of financial well-being so we thought it worth giving some oily rag tips on how to live without debt.
• To show how destructive debt is, consider the couple who buy a $300,000 house. Like many people they borrow 90%, in this case $270,000 on a 20-year mortgage at an interest rate of say 7.5%. The remaining $30,000 they scrape together out of oily-rag savings. By the time the final payment has been made, the total repaid would be not $270,000, but a mountainous $522,000. In other words the $300,000 house has really cost $522,000. The lesson is: take on as little private debt as possible and repay it as quickly as you can.
• Avoid the temptation to buy on tick. This applies especially to motor vehicles, furniture, clothes, holidays and hobbies. It’s bad enough that things like cars and household items lose value. Don’t add to your problems by paying interest as well.
• If you have a mortgage, and other debt like hire-purchase finance or credit-card debts, look at combining all of the debt into a single mortgage. Because mortgage money costs less than other debt, you may be able to cut heaps from your interest bill.
• Don’t guarantee someone else’s debts. Acting as a guarantor has nothing to do with being a character witness. It means you take on all of the risks of the debt without receiving any of the benefits! If the borrower defaults on repayment (either because they can’t afford to make the repayments or choose not to!) then the lender has every right to claim repayment of the debt from YOU, without even first pursuing the borrower!
• Beware of hire purchase. A hire-purchase agreement is where the customer makes a down payment on a purchase and agrees to repay the balance over a period of time (usually 24 or 36 months). Some retailers offer an interest-free purchase incentive, but even these deals will cost you more. Most hire-purchase or credit-sale deals involve establishment fees and insurance costs. The establishment costs cover the costs of setting up your account, checking your credit record and sending out regular bills. Most retailers will require hire-purchase contracts to include “risk” and “credit” insurance, and require you to pay the premium. Risk insurance covers the goods for theft, loss, or damage (for goods that remain the property of the finance company until the last repayment). If you already have household insurance that would cover the new purchase you will not need to take out additional cover.
Credit insurance covers the repayments if you are unable to do so due to illness, accident, death or redundancy. All of these things have a cost that would not be necessary if you paid for the goods upfront. That means that the cheap HP deal may not be so cheap after all. Always ask the retailer to tell you what the total all-up cost of the goods will be, including all of the fees.
• If you are finding it impossible to keep your head above an ever-rising tide of debt there are really only two things you can do: sell assets to repay the debt, or spend less. Selling assets or downsizing the home will be a hard decision to make, but it’s what you may need to do if you are caught in a debt vice. Those in a less desperate situation will simply need to be more creative about how they save money.
You can contract Frank and Muriel Newman via the oily rag website (www.oilyrag.co.nz) or by writing to Living off the Smell of an Oily Rag, PO Box 984, Whangarei.
* Frank and Muriel Newman are the authors of Living off the Smell of an Oily Rag in NZ. Readers can submit their oily rag tips on-line at www.oilyrag.co.nz. The book is available from bookstores and online at www.oilyrag.co.nz.