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Thursday, February 1, 2007
Logical steps

The recent interest rate hikes and an expected further increase in the prime rate should cause many people to take another look at their financial affairs. The important question is what is in store for their finances in 2007?

According to Francois Marais, Head of Strategic Initiatives at Sanlam Life, the lower interest rate environment of recent years up to mid-2006 and the virtually unlimited supply of credit during the past year have resulted in many people borrowing far too much money.
“Much of this debt is not incurred directly at banks, but is the result of hire purchase agreements and the large number of credit cards made available widely by banks via retail groups, airlines, cell phone companies and others. This means that many consumers are now indebted to the extent they should be rather anxious about the future, especially as the festive season goes hand in hand with so many additional expenses,” he observes.
“To redeem your debt in 2007 and take control of your finances, you need to draw up a simple income and expenditure statement, taking into account all your fixed obligations and provision for day-to-day expenses.
“It need not be a complicated process. When you have completed it you should have a pretty clear picture if you are living within your means.
“The effect of interest rate hikes on bond repayments is however a major problem,” notes Mr Marais. “In the lower interest environment of recent years many people bought houses to the maximum of their disposable income. So when interest rates are increased, as they have been in 2006, borrowers struggle to carry the extra financial burden.
“At the beginning of 2006 the prime rate was still 10,5%, but now it is at 12,5% per annum. As a result the bond repayment on a house of R500 000, for example, has increased by nearly R700 a month to R5 700.
A combination of increased bond instalment and the short-term debt incurred on hire purchase agreements and credit cards could mean that the financial position suddenly looks a lot less rosy. Mr Marais explains that every additional interest rate hike of 1% will increase the monthly instalment on a bond of R500 000 by a further R350 a month.
“Fortunately interest rate hikes do not affect short-term debt, such as with credit cards. However, the problem is that the injudicious use of credit cards, which carry a very high interest rate, could add to your debt burden very quickly.
“So the first step in getting your finances under control this year is obviously to avoid further indebtedness. Decide to pay only cash for products and services. The next step is to pay off the debt, dealing with the portion that attracts the highest interest rate first,” he says.
According to Mr Marais couples often fall into the trap of calculating their bond on their combined salaries. Sometimes one of the two incomes falls away, such as when a wife becomes pregnant and then wants to be a homemaker, or when someone decides to start his own business and cannot contribute to the joint income for a period. “Therefore, try to be prepared for unforeseen circumstances and not to stretch your loan to the maximum,” he says.
Once you have redeemed your short-term debt, it would be an advantage to make an additional payment on any long-term debt. For example, if you pay R350 a month more on a 20-year bond of R500 000 (without interest rates rising!), you will pay off the bond in 16 years (four years sooner) and save a total of approximately R200 000 in interest.
If your short-term debt has been redeemed, you will also have surplus funds to save or invest every month. “A good plan would therefore be to get your financial affairs in order - it’s easier than you think and definitely not an insurmountable obstacle. Should you need professional assistance, consult an accredited financial adviser who will be able to give you appropriate advice.”
 

Copyright © Insurance Times and Investments® Vol:20.1 1st February, 2007
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