Can I afford this debt?

Getting into debt is easy. Getting out of it, not so much. So before you borrow money, follow the tips below.

Be careful when you're borrowing money

Borrowing money almost always ends up costing more than the original sum because you have to pay interest. So, you need to make sure you can handle all those monthly repayments. But how you ask? Here’s how.

1) Make a budget

One of the first things you need to do is sit down and make a budget, to work out exactly how much ‘spare’ cash you have at the end of each month. If you have zilch left, then you can’t really afford to take on any new debt, unless you cut back on your budget somewhere else. Once you know how much money you can use for debt repayments, you can start looking for deals.

2) Shop around for the best deal

Interest – the amount you pay back when you borrow money – is calculated using an annual percentage rate (APR). It gets pretty complicated but basically the higher the APR the more you’ll pay back. A good deal can save you a fortune over time. Read our ‘I need to borrow money‘ article for more advice about the best places to try.

3) Take the family option – but only with lots of discussion

Getting a loan from the bank of mum and dad? You lucky, lucky person – parents tend not to charge interest and are usually more sympathetic than banks when you need to take a repayment holiday.

On the other hand, while your folks may not charge interest, you could be getting into a world of emotional debt. So it’s important to have a clear discussion about what’s expected of you, when you’ll repay, and how.

4) Pay off as much as you can as quickly as you can

The point of debt is not to make it last as long as possible (‘wow – I don’t have to pay this off until next year!’) but to get rid of it before it burns a hole in your bank account. Credit and store cards often let you make ‘minimum payments’ – this is a trick to squeeze interest out of you. Ignore them and pay off as much as you can.

5) Understand the difference between good debt and bad debt

Good debt is debt that will pay for itself in the long run. Good debts are planned, affordable and thought through.

A good debt is also one where you’ve researched what’s best for you in terms of interest rates, repayment times, and late fees.

Good debt examples:

• A student loan, as graduates earn more over a lifetime than people who haven’t gone to university
• A mortgage, if, of course, you can ever get one. Once it’s paid off, you have somewhere to live and your home is likely to grow in value over the years.
• An affordable car – so no, not a BMW convertible – so you can get to and from work, meaning you earn a living.
• A good debt is also one where you’ve researched what’s best for you in terms of interest rates, repayment times, and late fees.

Bad debt

Bad debt is where you can’t afford the repayments comfortably and the debt hasn’t contributed much to your future. Bad debts are usually caused by impulse buying or borrowing too much so the interest gets out of control – as tends to happen with credit cards.

Bad debt examples

• A massive holiday you pay off over time, with interest added. Holidays are great, but do you need your own private island in the Maldives?
• New car/shoes/phone just because you want the best, even though you already have one. Just think how quickly the value of these things deteriorate.
• Using payday loan companies – their tempting short term loans offer quick cash, but the high interest rates mean that if you fall behind on payments you’ll quickly end up swamped in debt.

6) Avoid borrowing money to pay off your bills

This is also bad debt – but we’re betting you don’t care by this point as you’re so stressed by money worries. If you’re struggling to get by at the end of each month, ask for money advice before getting yourself into extra debt. Trusted places like StepChange and the National Debtline are good places to go. Read The Mix’s article on safe debt advice.

7) Plan long term (as in a whole year away)

You’re young and fit. But sometimes the world bites a huge hunk out of people for no apparent reason. You could get made redundant, or you break your back and have to be off work for six months. Before borrowing money, consider how you’d pay it back if something big happened. How quickly would the amount you owe spiral out of control? What would your payment options be?