George**, who is a follower of this column sent me this query. I have used this scenario as the basis of this article with his permission, as this an extremely common scenario that many people can relate with.
“I am struggling with my debts. I do have a decent job but I find that I a lot of my income is going towards debt repayments. These are loans I regret taking, as I have nothing to show for them. I have credit cards and various personal loans. I am currently only being able to cater for my basic expenses but I have no money to have fun. My friends are wondering what is wrong with me, as I cannot join them when they are going out. I have even been tempted to borrow just to afford some entertainment. I have talked to the bank and they are willing to pay off all my debts and instead give me one loan. My repayments will be much shorter then and I can enjoy my life to some extent. Please advise as this is really distressing me”.
What do you do if you are struggling with debt like George? Should you take the easy loan repayment options being offered by various financial institutions to ease the burden? Let’s evaluate George’s dilemma step by step.
Even before we get to the actual financial implications of what George is considering, let us talk about what is actually going on behind the scenes. In a nutshell, George wants to have his cake and eat it. He made bad financial choices and in his own words he admits that he has nothing to show for the debt he accumulated. We are not in this case talking about someone who took loans for investments. Every choice has consequences and bad financial choices are no different. George took bad loans and the consequence is that he cannot afford a certain lifestyle i.e. having fun and going out with his friends. Should he take what looks like the easy way out and get this loan for the bank. Absolutely not! Firstly, George is at least covering his basic expenses. His problem is not that he cannot afford food or rent but it is that he cannot afford entertainment. Entertainment is a luxury and at this point in time one that he has to do without. Secondly we have to look at what got George into this dilemma. Given that there is nothing to show for this debt and the type of loans i.e. credit cards and personal loans we can reasonably assume this is consumer debt. He may have taken this loan to buy a phone or just became reckless with what he was spending on things such as entertainment. In summary he was spending more than he was earning and covered the difference through debt. George became addicted to “instant gratification” which came with dire financial consequences. If George takes the easy repayment plan, and gets a bit of money back into his pocket he is likely to get into the same problem again. George is trying to avoid the pain (pain of learning about delayed gratification), that he is currently going through but unless he actually goes through it he will not learn the lesson. If he endures through this, he will most likely think twice before getting into bad consumer debt again because of remembering the agony he went through and simply being able to identify what kind of spending habits would lead him to the same situation
This process will also help wean George off the disease called “Other People’s Opinions”. He is currently bothered about what his friends think of him, but I would bet this same disease had a significant role to play in why he is in debt in the first place. Many times we spend money to keep up with other people and to sustain a certain impression they have of us. To sustain this perception we have to keep spending money. If you buy a new phone, you may get people’s attention for one month. To keep their attention you have to keep buying something else. This is downward spiral and destructive in more ways that this article can elaborate. Lastly the reason why George should not take this loan is the actual longer-term financial consequence of doing so. What the bank is offering George is known as “Debt Consolidation”. They are offering George one loan that can be used to pay off all the other smaller debts he has. They have given him a longer time to pay it off and consequently the monthly repayment is smaller. Now, this is the part they have probably not told George. When the monthly repayment is smaller, it means that you are paying more interest. For example if you borrow Kes 300,000 for three years at 15% p.a. interest, you will pay approximately Kes 10,400 per month and over the course of the loan you will pay Kes 75,000 in interest alone. If you borrowed the same amount for 5 years you will pay Kes 7,100 per month but Kes 128,000 in interest. If you could and did take it for 10 years monthly repayment would be Kes 4,800 per month but Kes 280k in interest. This is the reason I do not think George should take the bank’s offer as tempting as it may look to him at the moment. This combined with the fact that George’s fundamental reason for wanting an easier payment is to go spend money on what got him into debt in the first place.
Waceke runs a program on personal financial management. Find her at waceke@centonomy.com
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Amazing tips. I think I must start cutting down my expenses. Your articles are very educative.
Thank you,it is wise to cut down on expenses that are not necessary and once you do that you will have more money to save. Keep rrading and you will find helpful advice.