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South Africans often don’t understand the implications of taking out bad debts in a high interest rate environment.
Over the festive season, many South Africans take on debt to overspend on presents, parties, etc., accruing credit card and store card debt. With high interest rates and strict repayment terms, this leaves many in a difficult financial position.
“Understanding and managing debt is crucial for long-term financial well-being, as it can significantly impact your ability to save, invest, and achieve financial goals,” said Shafeeka Anthony from JustMoney.co.za.
“January is traditionally when people take stock of their financial situation and decide on fresh beginnings, so this is an ideal time to learn more about debt and take control of your money matters.”
Anthony said that a critical aspect of managing debt is understanding the difference between good and bad debt.
Good debt
Good debt refers to borrowing money to invest in assets that have the potential to increase in value over time or to generate an income. Examples of good debt include:
- Student loans: Investing in education can increase earning potential and long-term career opportunities.
- Mortgages: Purchasing a home can be a good investment as the buyer is paying off their own property, which generally appreciates over time.
- Home improvement loans: A personal loan, or home equity loan (home loan refinancing) to renovate a property can increase its value.
- Business loans: Borrowing to start or expand a business can also grow personal wealth and profitability.
- Vehicle loans: Financing a reliable car can be a good move if transport is essential for work and increases the ability to generate an income.
Bad debt
On the other hand, bad debt refers to debt that does not help in wealth-building or does not provide long-term value. This includes
- Credit card debt: Accumulating credit card debt for non-essential purchases, and not paying it off in full at month-end.
- Lifestyle loans: Taking out loans for items with no lasting value, such as tech gadgets, trendy clothing, and luxury holidays.
- Financing a rapidly depreciating vehicle: Financing a car that depreciates rapidly in value and needs expensive repairs and parts is a poor financial decision.
Debt and credit scores
A credit score is also crucial in managing debt, as it lets lenders know if you’re a low-risk or high-risk borrower. Lenders will check these scores and accompanying reports in detail before giving any kind of loan or credit.
A credit score also determines the interest rate you are charged, and good debt has a positive impact on this, whilst poor financial behaviour makes it challenging to access favourable financing options in the future.
“Given the tough economic climate, few of us can pay for a car or home in cash,” said Anthony.
“Using credit is unavoidable; being able to obtain a loan or bond can make all the difference to your lifestyle. If you can obtain a loan at a favourable interest rate, this adds up to a saving of thousands of rands over the payback period.”
Read: Businesses in South Africa hoping for the best in 2024
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