We are often led to believe that all loans are bad and borrowing can almost become a dirty word. This is because we hear many stories about people who get into piles of debt and have such trouble managing as a result of it. This sort of unmanageable debt can lead to stress, mental illness and physical illness as well. However, not all borrowing is bad and it is really important to understand the difference between good and bad debt so that we can decide when borrowing is right for us.
Costs of borrowing
When people are considering borrowing money, one big mistake that they can often make is to not look into the costs of it. When we go overdrawn, for example, we do not think about how much the interest rate will be because we usually only have one arranged overdraft so we have to use that. The same when we decide not to repay our credit card in full. We cannot spend time comparing rates at that point in time we only have to one card to use and so that is the one that we will use. This is why it is important to monitor the costs of these types of borrowing all the time and switch to cheaper options just in case we need them.
Most borrowing is done by way of an arranged loan. This means that you will have to opportunity to look at the different types of loan available and to compare the prices of them between different lenders. If you do this you can find that you will be able to save a significant amount of money if you choose cheaper lenders over dearer ones.
However, it is still worth comparing these costs. You want to see whether you are happy with paying that much. For example, if you are taking out a mortgage, then look at how much it will cost you overall and see whether are still prepared to pay that much for the property that you are buying. It will be significantly more than the asking price of the house due to the costs of the mortgage which will add up over the long term. Only use the loan to purchase the item if you are prepared to pay those additional costs for it.
Ease of repayment
It is important to also look at the repayments and see whether you will be able to manage them. Find out how much you will have to pay each month and think about whether you think they are going to manageable for you. If you are not sure then look at your previous bank statements and see how much you have left at the end of each month and think about whether you will have enough to cover the cost of the loan. If you will not have enough then see whether there are any areas you can reduce your spending so that you can afford those repayments. If the loan will go on for a long time, then you need to also think about whether you will be able to afford those repayments in the long term or whether you can only afford them for a few months. Try to consider whether your circumstances might change in the future and if this will have an impact on your ability to cover the cost of those loan repayments.
If you think that you will be able to comfortably cover the cost of the repayments then the loan could be a good idea, but if you fear that you will struggle then it is better not to take it out.
Reasons for borrowing
It is also worth thinking about why you are borrowing the money and what it is paying for. There are some things that we can buy which will really help to enhance our financial future and so the loan can be well worth it, as long as we can afford the repayments. Examples of this would be buying home so that you no longer have to pay rent, paying for university so that you can get a better paid job and buying a car so that you can get a job as a driver. Many people borrow for reasons that would not seem to be good though. They might fancy a new dress so use their credit card to buy it, borrow money to go on holiday or to redecorate their home. It is not always that easy though to decide whether your debt is good or bad but if you look into it carefully you will have a much better idea.
It is worth remembering that borrowing can be good when we will gain in the future form it. Think about whether what you are buying is worth the extra cost of the borrowing. Consider whether you really need those items and what impact they will have on your life. Decide whether the borrowing will Improve our future by providing us with things that will make us better off or whether it will only give us a short term pleasure and a long term debt.