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Debt repayment takes top priority
Published at 12:00 27/05/2009
Consumers are prioritising debt repayment over holidays, gadgets and treats in the face of gloomy economic forecasts and fast-rising unemployment.
Economists are being even more gloomy about the consequences of this, but are probably (as usual!) missing the big picture. They are puzzled at why more money isn’t showing up in savings accounts as we clamp down on our spendaholic tendencies.
Here’s why: we’re drawing on our savings balances to pay off debts.
Last year, if you negotiated a good rate, you might be paying 5% on a mortgage and earning the same rate on a savings account. You had no incentive to pay off your debt. Today, you’re lucky if you get 2.5% on a savings account, but your mortgage probably still costs you 4-5% and if you’ve got other loans or credit card debts they cost far more. So drawing on savings accounts to pay off debt now saves you a packet in interest.
Here’s our debt priority checklist:
Pay off the costliest debt first. Credit card balances are probably costing you 10-20% a year, storecard balances even more, personal loans anything from 8% to 20% and overdrafts anything from 9% to 20%. Pay all of these off before you think about paying a penny off your mortgage.
Check penalties first. There are no penalties for paying off credit card debt, but there usually are early repayment penalties with personal loans. In some cases, if you’re near the end of the term on a personal loan, the penalties can mean it just isn’t worth making early repayment.
Keep some cash available. Don’t use emergency funds to pay off debts unless you are in really dire straits. Having an emergency fund equal to at least three months’ spending is a vital cushion, especially at a time when the risk of unemployment is growing. Don’t leave yourself without this safety net in the attempt to pay off your debt.
