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Topic 4: Money costs – credit and debt
Being more financially responsible and having better money management skills means understanding some of the ways that credit and debit work. We all have money habits and values and sayings about money that might stop us achieving our savings goals. Once you recognise your own labels around credit and debt the next steps might include:
There are so many pressures around us, so many choices and it is tempting to use credit cards - to 'buy now and pay later'. There is always a cost for borrowing money if strict guidelines are not followed. Think about money like any other product, where can you get it from, what does it cost? It all seems like a good idea when something is on sale, or the last change to buy, but if you don't have the money in the bank to pay off the credit, it could end up costing you more than if you had waited.
» www.fido.asic.gov.au The Australian Securities and Investments Commission (ASIC) - Get a free copy of the booklet, Dealing with debt: Your rights and responsibilities or order a free copy from 1300 300 630 Causes of debt When we need more money, we sometimes borrow money by taking out a loan or using credit. Usually it is for a good reason - but we all know it has to be managed well or debt can become a problem. Getting into debt is easy. There is always a cost to borrowing money. Some of the main causes of debt are:
You can use the prompt sheet if you want to discuss [the causes of debt]with your partner or family. Pressures to use credit Some of the pressures to use credit include:
Sources for borrowing money When we need more money than we have, we may need to borrow it. Where can we borrow money? Remember money is a product. In most cases the people who lend you money are running a business to make a profit - so they need to charge you for it. There are different places you can borrow money from.
Getting a loan or credit means going into debt. In this sense 'getting credit' is actually 'going into debt', credit really equals debt. Look at the different sources for borrowing money and think about what you would do.  The price of borrowing Normally when we borrow something, there is a time when we have to return what we borrow. In the case of money, there are costs as well. So borrowing money is actually buying it, and the cost is the interest plus fees and charges.
Do any of us really understand the workings of interest, fees and minimum repayments? Do we know how to calculate interest on our credit card and the length of time it will take to repay the credit card - especially if we only make the minimum repayments? Here is a straightforward example. If you borrow $1,000 dollars at 10% for a year and you pay it back at the end of the year you will pay back $1,100 plus fees and charges. Before you use a credit card to buy something just check - can you repay the whole amount by the next due date? If not, add credit card interest to the price. It might not be such a good buy and the debt might be hanging around for a long time. The Australian Securities and Investments Commission (ASIC) also has a credit card calculator on its consumer website www.fido.asic.gov.au If you enter your account balance, interest rate, repayment amount and the amount of credit you owe, it will calculate how long it will take you to pay off your credit card and how much interest you will pay over that period. Here is a more realistic example using a more realistic percentage rate. For example: If you owed $2000 on a credit card with 16.5% interest rate and you were required to make a minimum payment of 2% of the balance, or $20 whichever is the greater, it will take over 16 years to repay the $2000 plus interest of over $2900 assuming you only pay the minimum amount (and never use the credit card again). There are things to look out for when aiming to get the right credit card for you depending on what suits your style of spending and paying it off. What makes one source of money more attractive than another? One way is to compare what they cost i.e. the interest rate charged plus any fees and charges. Tips for managing cards Credit cards are not right for everyone. A credit card (or higher credit limit) is easy to obtain and a credit card is very easy to use, and to keep using up to your credit limit! Some people find they don't have the discipline to control their spending on credit and make the sensible decision to do without a credit card. Is this the right choice for you?
Remember store cards charge the highest interest of all! » www.usecreditwisely.com.au For other tips about using credit wisely Finding the full cost of borrowing The information in advertising, brochures, contracts is not always easy to follow and it is not always easy to find out the full cost of borrowing. Is this deliberate? Remember:
Most financial providers are required to show you what is called the Comparison Interest Rate when you borrow money. That is the full amount you will be charged including most fees and charges over the period of your loan. Use the comparison rate and compare loans. What are the main things you should find out when you borrow money? Remember, before you get a loan or sign any loan document - you should find out how much the loan costs, what the repayments are and if there are any repayment conditions. Write them down for yourself and keep them:
So:
 How debt growsDebt is a worry if you have trouble repaying it because the interest on a debt grows and keeps growing unless you pay back more than the interest charged each month on the loan. Here is a story that might demonstrate how easy it is and to explain to your children the dangers of using credit cards to buy something if you don't have the money in the bank when it comes to the payment date. Sally bought a new laptop for her new home business on the credit card. She shares the card with her partner Nigel but he did not know she had bought it until they got the bill. Nigel wasn't happy about it. The balance is now up to the limit of $3,000 and paying it off will take many months. Nigel wants Sally to take the laptop back for a refund before they get stuck with a big debt. Nigel says she can continue using his old one even though it is really slow and keeps freezing, and then get a bank loan to buy better one later on. Sally just wants to get on with the job. Using the credit card was easy and applying for a loan takes time and effort and they might be asked too many questions. She was afraid that her mobile phone incident might come up where her mum had to pay the bill off after she couldn't pay as a teenager. Sally is sure that her business helping to do administration tasks for lawyers, will bring in enough money to make the credit card payments seem painless. She has already used the new laptop a couple of times. Nigel argues that reaching their limit on the credit card is dangerous because now they don't have a ‘safety net' if something else goes wrong. It didn't take long. The next day, Spot, the family dog, escapes from the yard and gets hit by a car. The vet says that Spot needs urgent surgery or he will die. How does the credit card debt work out for Sally and Nigel? They owe $3,000 and the interest rate is 16% per year. What would happen if they only paid back the minimum amount each month? You can use how debt grows if you want to discuss these points with your partner or other family members.
Remember, one option is to pay off more than the required minimum repayment each month, so you dramatically reduce the length of time it takes to pay off the debt and the amount of interest you pay. Or at best pay off the entire bill each month. Use the Credit Card Calculator on the home page to work out your repayment options. What are some of your options for working your way out of your debt? What happens if you receive a Default Notice or a Letter of Demand? The options include:
Tough times In the climate of an economic downturn people may have to reduce their hours of work, be worried about losing their job or actually lose their job quite suddenly. Visit www.asic.fido.gov.au for more information about how to manage debt during these times. Guides include: I have just lost my job See our useful websites section for more places to go for help.
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