It’s no secret that most South Africans spend more than they earn. According to research from Standard Bank, lower income groups (95% of the population) spend way more than what they can afford.
The main reason behind this is debt. A recent World Bank index revealed that South Africa is one of the most indebted countries in the world. So, should you start paying off your debt to afford life’s luxuries?
Well, with annual pay rises not as great as they used to be, it’s not easy to decide whether to grow your money by investing it or use it to get out of debt. And, if you’re in this situation, here’s the answer…
It’s almost impossible to live debt-free
Whether it’s your car finance, bond, a university loan, retail store account or credit card, you have debt. There’s nothing wrong with trying to pay it off as soon as possible. However, you also know that you need to invest for a rainy day and at the same time enjoy the finer things in life. What can you do?
Firstly, identify what type of debt you have
It’s easy to distinguish between the two types of debt – good and bad debt. You usually take good debt is also known as ‘cheap’ debt for purchases like your house because of the low interest rates you pay on it. According to CNN Money: “Good debt includes anything you can’t afford but need to pay for up front without wiping out cash reserves or liquidating all your investments.”
Bad debt (expensive debt), is debt you take on for luxuries you can’t afford and don’t need such as a Gucci bag or a holiday to Bahamas. With this type of debt comes high interest rates. Furthermore, it’s synonymous with personal loans, credit cards and store cards.
Secondly, work out how much your interest is costing you
To work out how much your interest costs you, write down the interest rate you pay on all your debts and the expected return on your investments. Then compare the two.
If the return on your investments is higher than the interest rate expense on your debt, you should invest. Otherwise, pay off your debt.
Try not to apply this principle for good debt. This is because, if you’re not paying your bond for example, you’ll be paying rent (someone else’s bond).
Bottom line: Only invest when you have no bad debt at all! But, if you can make a greater return on your investment than it’ll cost you to pay off your debt, then go ahead and invest. Just remember, luxuries will get you into more debt. So, let them wait!