Taking out a personal loan can be daunting. When you borrow a large sum of money, you may fret over whether you’ve done the right thing and whether you’ll manage to pay it off.
But sometimes the best way to deal with fears is to face them head-on. We unpack some scary facts about personal loans and then consider whether, and when, it’s a good idea to take one out.
Tip: If you’re worried that you’re not managing with your instalments, click here for debt help.
Personal loans can add value, but know the cost
According to Sheila-Ann Robey, financial adviser at Lifeguards, an affiliate of Liberty, personal loans do have their place.
“They can be used as a tool to consolidate debt or, if you need the loan for a necessity, such as a tertiary education, then it can really support your future self,” says Robey.
However, she advises that you do your homework when shopping around for a personal loan, and that you have a good, honest look at whether the purpose of the loan is for a need or a want.
“If you’re taking out a loan for R100,000 over a 4-year term at a 20% interest rate, you will pay back R146,065.92 in total, without taking fees into account,” says Robey.
Based on the above example, the interest on your personal loan will add up to nearly 50% of the lumpsum you initially borrowed. Therefore, the cost of having received that loan in the first place is R46,065.92.
“When looking at the figures it really puts into perspective how costly debt can be, and how important it is to understand the terms and conditions,” says Robey.
She believes that with sufficient knowledge, your financial planning journey can avoid later heartache because you weren’t aware of what you were getting into.
“A trusted financial advisor can guide you through the ins and outs of your debt management and personal loans,” says Robey.
Be aware of what you’re getting into
Robey outlines six points about personal loans that may seem scary or concerning. But these are the facts you need to understand before taking the plunge.
- Every loan you take reduces the likelihood that you will qualify for another. So, it is vital that a personal loan is used to fund a necessity.
- If you have an average or poor credit score, you may not qualify for a personal loan or if you do, it will most likely be at a very high interest rate.
- You should only borrow as much as you can afford to pay back, or you risk being handed over for default judgment. This negatively impacts your credit score and it is difficult to have your name cleared.
- Only borrow from a responsible and registered lending institution because quick loans often attract excessively high interest rates and you have no protection under the National Credit Act.
- Credit life cover is insurance that pays the institution the outstanding debt if you pass away. Often the premium for credit life cover is added to your fees and outstanding capital, upon which you are charged interest, meaning you pay more for your loan over the term.
- Most personal loans charge double-digit interest rates. However, this is risk profile dependent and differs between institutions.
Personal loans should be used only for good debt
Robey believes that if a personal loan adds real value to your life, through for example education or increasing the value of your home via renovations, then it serves its purpose.
“Debt allows us access to things we would not normally be able to afford in one go. A distinction must always be made between good debt and bad debt. Good debt adds value to your life and bad debt often funds a lifestyle,” says Robey.
“The more bad debt you have, the closer you get to kissing your lifestyle goodbye through paying back bad debt. I always maintain that having a relationship with a trusted financial advisor can add real value to your life when navigating your debt management journey,” Robey says.
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