Saving and growing your money is the right idea, but getting started can be daunting. Should you get a money market account before diving into stocks and funds? Is retirement annuity a good idea or should you use more generic investments to maximise your returns? These are all good questions, but for many South Africans the best thing to do with money is pay off debt before thinking about saving. The faster you pay off your debt, the less interest you pay and the more money you have left to save.
Findings from the annual Old Mutual Savings Monitor revealed that 42% of South Africans under the age of 32, otherwise referred to as ‘Generation Y’, are saving more now than they were a year ago. This is compared to 29% of people between 33 and 48, and 26% of those aged over 49. 83% of generation y also told researchers that they would like to learn more about saving.
Unfortunately many individuals have significant debt to contend with before they can get going with an effective savings plan. This is also true for younger people who are lured into retail store cards and vehicle financing the moment they land their first jobs. A significant amount of people – 60% in the case of generation y – have retail store cards, according to the Old Mutual Savings Monitor, and only 10% pay off their credit cards in full every month. 15% have personal loans from a financial institution, and that climbs to 19% for people between 33 and 48.
The reason tackling debt before investing makes so much sense is simply down to interest. In South Africa monthly credit card interest rates of 25% and even more are not uncommon, while a money market investment will typically yield between 5% and 8% per annum. Your credit interest is applied on an ongoing basis, so the longer you take to pay off the card, the more interest you will pay. In short, you’re losing large amounts of money from your short-term debt that you won’t make back off entry-level investments. The solution: use all of your money to blast away short-term debt before considering your first investment products.
The solution: use all of your money to blast away short-term debt before considering your first investment products.
Of course, not all debt is bad debt and there are advantages to having a strong credit rating and using credit facilities to your advantage. In his book The Value of Debt, author Thomas J. Anderson argues that debt can offer long-term benefits for wealth management if considered holistically in terms of your finances. He describes finding a ‘debt sweet-spot’ for yourself and using facilities to leverage other investments.
At the heart of Anderson’s strategy, however, is the use of an asset-based loan facility. In the South African market something like a structured facility or “one account” instead of a typical home loan would probably be the best example of this. It means that you essentially have a transactional bank account with a line of credit secured by a property asset. On one hand this offers a fantastic low-interest credit facility that is super useful if managed correctly. On the other, it is the easiest way to turn a 20-year bond in a 50-year nightmare if you aren’t disciplined with the available funds.
Clever use of asset-based loans aside, getting out of credit card, retail store and vehicle debt as soon as possible is generally the best strategy for first-time investors. Once you are free of high interest rates on short-term debt, the yields from your first investments will make a meaningful contribution to your wealth development.