Whether or not we like it, debt, in one form or another, will always be a component of our financial profiles. And if it is handled with care and forethought by the investor, it can be an effective means of amassing wealth.
For instance, you might take out a loan from the bank to purchase an asset, which is a resource of monetary value that, when put to productive use, results in the generation of income. One example is purchasing an investment property. Consequently, purchasing a piece of real estate that generates income can be a smart investment strategy.
If you are already active in the real estate market, the house value you have built up, also known as the portion of the property value that belongs to you, can be used to assist you in purchasing a second piece of real estate. It’s possible that the initial investment will not require as large of a deposit as this one does. In the occurrence that the rental market is thriving and your residents pay you more than the amount you repay on the loan, municipal premiums, and property management fees, then the money machine will begin to run itself.
Debt Makes Numerous Individuals Nervous
An individual in South Africa who makes R20,000 per month devotes, on average, 63% of their income to paying back unsecured debt. Unsecured debt includes things like credit cards, personal loans, overdrafts, and facilities that allow you to “buy now, pay later.” It is recommended that you spend no more than forty percent of your income on debt service, as this is considered to be a good general guideline.
Misconceptions about finances are often the source of people’s anxiety. The primary one is the idea that any form of debt is unacceptable. This is not the case at all. Borrowing money to purchase an asset responsibly can contribute to wealth accumulation over the medium to long term. Therefore, worries about debt must be assessed against a more comprehensive comprehension of the process of wealth accumulation. In this process, having well-managed debt can be helpful. The following are the four most common misunderstandings regarding debt: You will be able to gain a more balanced view of debt if you acknowledge these factors.
The Existing Misunderstandings
Having Debt Is All Bad
When you get to the point where you can no longer handle your debt and it begins to manage you, then you have a problem. The term “leverage” refers to one of the most straightforward methods for determining whether or not your debt is working in your favor. This term refers to the practice of taking on additional debt to finance the purchase of an asset whose value exceeds the value of the debt. It is also sometimes referred to as favorable or positive leveraging.
People who spend their way into debt by taking out unsecured loans are unfavorably using leverage because this type of debt is powered by consumption. Frequently, nothing is to show for the money that you have invested. Due to the absence of collateral, unsecured loans typically have interest rates that are significantly higher than those of secured loans.
Financially Irresponsible people Are the Only Ones Who End Up in Debt
The following erroneous belief is this one. The majority of South African consumer debt portfolios are made up of home loans, coming in second only to unsecured loans. Getting a mortgage is probably the most practical way to break into the property market and become a homeowner. If you can pay off your mortgage within an acceptable amount of time, then you are doing the right thing. This will result in the worth of the property, in the long run, increasing to an amount that is greater than the amount of the home loan that was used to purchase the property in the first instance. However, two common misunderstandings pertain specifically to mortgages.
There Will Be No Additional Costs for You to Pay After the Initial Deposit for the Bond
This is not an accurate statement. Both opening and closing a home loan account at a bank will cost you a fee. When a household loan is paid back ahead of schedule, the borrower may be subject to additional fees. Therefore, make sure that you carefully read any fine print that may contain information about release fees or settlement costs. Your ability to quickly pay off the loan is directly proportional to your adherence to the mortgage payment amount that was agreed upon.
This is not accurate; regardless of whether or not interest rates go down and whether or not your monthly mortgage payment goes down, the likelihood is that your home loan is linked to a loan term of between 20 and 30 years. The monthly mortgage payment amount that is quoted by many banks may appear to be within reach at first glance, but in reality, it is calculated based on a term that spans 20 years.
Because banks are organizations, it is to their advantage if you take a longer amount of time to pay back your mortgage because this will result in a greater amount of interest being paid back by you. The longer the term of the home loan, the more interest you will pay overall, and the more money the lender will make off of the transaction.
When it takes longer than twenty years to repay a bond, it is common for the value of the interest installments to exceed the principal amount that was borrowed in the first place. Calculators for home loans are a helpful tool that can assist you in determining how much you can afford to pay back on a home loan based on the amount of the deposit you have saved, how much time it will take you to pay back the loan if you make topped-up contributions, and whether or not interest rates change.
It is crucial to have a goal for when you’d like to fully pay off your loan and a plan in place to accomplish this objective to do so at the earliest possible date. If you don’t do this, you run the risk of becoming a captive of your mortgage.
Maintaining Focus on the Goal at Hand
It is important to keep in mind your long-term financial objectives now that the year is coming to a close and the holiday season is fast approaching. Avoid letting your guard down by unintentionally swiping or tapping your credit card during this time of year.
“Janu-worry” is fast approaching, and with it comes the accompanying anxiety regarding one’s financial situation. However, this does not have to be the case. Your current financial situation may be the result of, or even the cause of, your reliance on debt. Rethink how you spend money that leads you to reach for your credit card. An abnormal spending pattern that should raise red flags is racking up an excessive amount of debt in a short amount of time.
If the alternative requires you to give up your hard-earned income to pay for the maintenance of consumption-driven debt, then there is no downside to purchasing only what you can pay for or remaining in your current financial position. Whatever the case may be, debt will always be a component of our overall financial portfolios. However, the path to monetary autonomy is not always a smooth one; however, sound financial planning can assist you in keeping your eyes on the prize.