What can you expect to learn in the debt repayment 101 series?
Key Outcomes: Healthy credit score, improved credit score, debt-free, healthy personal finance, stress-free finances.
When used responsibly, credit can be a helpful financial tool. Whether it’s taking out a home loan, securing financing for your business, or buying a car with manageable repayments. Access to credit can also help you deal promptly with unexpected, costly emergencies and can offer peace of mind when travelling.
But, when not managed correctly, credit can also lead to crippling debt. Getting rid of that debt is a big mission!
Debt repayments can seem like an insurmountable task, but there are clear and effective strategies to manage your debt and the process of repaying it. We’ve got everything you need to know in our debt repayment guide so that you manage those outstanding amounts with ease
Ready to get started? Let’s get going below.
Shortcut to the articles in the debt repayment 101 series
Article 1 – Understanding Debt Basics
Outcome: Before repaying debt, it is important to better understand debt, the words we use when talking about debt, and how you get caught in a debt cycle.
1. Debt keywords explained
Your credit score is a number attached to your personal credit report, which is calculated based on your ability to pay back any money borrowed. The higher the score, the better you look to potential lenders.
A record of your previous credit lines, including money that you borrowed and details on your repayments, such as whether you paid back on time or not.
Like a credit card, open accounts are credit accounts that you can borrow from (with a maximum limit) but which must also be paid back in full each month.
Interest is the charge or percentage that you’ll pay for borrowing the money on top of your primary borrowed amount.
This is the duration of the credit repayment period, i.e. how long you have to repay the money you borrowed and its interest.
The capital balance is the amount of money you borrowed without factoring in the interest.
Opening balance, or how much you owed at the very start of the statement period.
This is the total amount you owe on your credit card at the end of the month, meaning that this balance is the amount you’ll need to pay.
A third-party that is used to collect outstanding or unpaid debts when payment terms aren’t met.
The process of getting financial advice or help with regards to managing your debt.
Combining your debts into one larger payment in order to make your debt management easier.
2. What is a basic definition debt?
Debt is the amount of money that you owe to someone else. This could be your friend, a private lender, bank, shop, or institution such as a school or university. Taking credit, in the form of money through a loan, makes you indebted to that person. The more money you borrow, the more debt you have.
3. How does interest work?
Understanding interest is important to managing your debt and keeping track of how much money you’ll owe throughout your repayment period.
The interest rate is the charge or percentage that you’ll pay for borrowing the money on top of your primary borrowed amount. Think of this as the bank’s profit for lending the money.
- For example, if you borrow R100, and there is a 10% monthly interest rate, you will have to pay back R110 (R100 capital balance + R10 of interest) at the end of the first month.
- If you borrowed R50 with a 10% interest rate, you will have to pay back R55 at the end of the first month.
Understanding this is key in helping you select the best loan agreements for your budget.
The interest rate is essentially the ‘profit’ banks make on lending people money. The banks are able to use the interest that is paid back to provide more loans to people, and therefore make more money.
While bank loans can be helpful, it’s good to be aware that loaning money is a risky business. The interest rates are part of managing that risk, and because banks make a profit through people being in debt and continually paying high interest rates, they are happy for you to be indebted to them.
4. How do you get caught up in a debt cycle?
A debt cycle is whereby you are unable to pay off your existing debts and end up having to borrow more and more money to cover the costs of your existing debts. This often happens when the interest rates of all your owed debts end up outweighing your incoming cash, therefore causing a shortage of money.
How you can be more aware of debt cycles
Banks lending people money is good business for them, as they make a profit on the interest, and if you can’t pay the debt, one tends to borrow more money. This is a dangerous cycle to be in, as banks can end up repossessing your assets. That is why debt management and repayment plans are so important.
The key to managing debt is ensuring that your cash flow is positive, which basically means that you have more money coming into your account than going out of your account.
How lifestyle spend can snowball into debt
Your ‘costs’ can be priority things you have to pay for, such as rent and car payments, but it can also be lifestyle expenditure, such as unnecessary shopping. This is undisciplined spending and should be avoided if you don’t have the additional money to do so, as lifestyle spending often leads to initial debt.
Furthermore, it’s good to plan for unexpected expenses. These unforeseen costs, such as a car or home repair, can cause a dip in your budget and cash flow, which can lead to taking a loan in order to cover the unforeseen costs. A solid savings plan can help prevent these situations and help manage these unplanned financial burdens.
The problem of the debt cycle is that you will borrow more money to pay off other debts, and therefore have a new debt to repay too. These expenses can cause you to take multiple loans out, as you’re never ‘catching up’ with the initial costs.
The repayment trap can cause you to borrow money just to cover the interest and cost of a previous loan, which can be a very difficult position to get out of. Once again, having a solid saving plan to anticipate these costs can help avoid borrowing money unnecessarily.
When do banks use “rewards and gift programmers” to get you into more debt?
Many banks, retailers, and insurance companies will use rewards programmes to ‘gift’ their customers certain discounts or benefits. But you must be wary, as these rewards programmes tend to make people spend unnecessarily in order to capitalise on a ‘deal’ and create further debt.