When money management means debt management
Debt may be an unavoidable part of modern life, but it’s a particularly harsh reality when you can’t start paying it off since your student status means you’re focused on learning, rather than earning.
So the question is: how do you minimise the damage done to your finances – and your credit rating – while you’re studying? Obviously, you can look at bringing in more money, through part-time / holiday work and / or bursaries (see the bursary map from the Department for Innovation, Universities and Skills).
What you can’t do is stop spending. You might cut down on nights out, takeaways and other luxuries, but expenses like accommodation, food and clothing are simply inevitable – as is borrowing, when your expenditure exceeds your income.
If you’ve got to borrow…
The trick is to find the way of borrowing that costs the least.
Student loans come with two particularly useful features. First, repayments don’t start until you’re earning enough. Second, the APR (Annual Percentage Rate – currently 4.8%) is linked to the rate of inflation, so in real terms you only pay back what you borrow.
Some banks / building societies offer 0% overdrafts, but remember they’re granted at the bank’s discretion, and the bank is free to reduce your limit or charge you for going over it. Still, if you’re confident about your debt management skills, 0% is 0%…
Personal loans can be a good way to access cash at a reasonably low interest rate (could be as low as 6%). Many people use a loan to pay off high-interest debts like credit cards and overdrafts. They’ll often repay this ‘consolidation loan’ slowly, which can mean each monthly payment is lower – but the total repaid is higher, as they pay interest for longer.
Credit cards: only spend what you can pay back within a month and you’ll avoid the interest charges (often 15-17%), so it works like an interest-free loan. These days, millions of people avoid interest by switching to a new card before their current introductory 0% period ends. Most card providers charge a transfer fee of 2-3% for this, but it can still work out cheaper than paying interest.
Five simple rules:
1. Don’t underestimate 1%. An APR of 6% isn’t 1% bigger than 5%. It’s 20% bigger.
2. Don’t forget the impact of longer repayment terms. Pay back £5,000 over 5 years (with an APR of 8%) and you’ll pay just over £1,000 in interest; pay it back over 7 years and it’ll cost you almost 50% more.
3. Don’t suffer in silence. If you’re struggling to make payments, talk to your creditors. They might agree to freeze interest, lower payments, waive charges, or even give you a short ‘holiday’ from making payments.
4. Don’t think minimum payments are enough. If you can afford it – and the terms allow it – an extra £5 a month can mean big long-term savings.
5. Protect your credit rating. See below.
Your credit rating:
Your credit report is your financial track record, which creditors check when they’re deciding whether or not to lend you money, and how much to charge. So if you want to make your financial life easier and cheaper, look after your credit report.
Imagine: a few years from now, you want to borrow £10,000 and pay it back over 7 years. An excellent credit rating might mean they’ll charge an APR of 6.5%, so you’ll pay around £150 per month and about £12,500 in total. A poor credit rating might mean an APR of 12%, so you’ll pay around £175 per month and about £15,000 in total.
Fortunately, there are some simple ways to improve your chances of success. Register on the electoral roll. Open a bank account. And if you’re refused credit, don’t keep on trying – leave it a month or two, so potential lenders don’t think your financial situation is desperate.
Finally, a sobering thought: the government estimates the average student debt to be ‘more than around £15,000 for students starting in 2006/07’.
In today’s economic climate, there’s a fine line between borrowing just enough to finance your education and running the risk of unaffordable debt – 2007 saw well over 100,000 insolvencies (bankruptcies and Individual Voluntary Arrangements or IVAs) in the UK, and financial experts are expecting these figures to rise even further.
