The word Debt sometimes sounds scary. It can be compared to a ship with a little crack that is allowing water into it, but because it is still sailing, everything seems fine until it has taken in too much and it begins to sink. When you notice that you are neck-deep is when the ship has already sunk so deep. It is so easy to get into debt. It is just one circumstance, one challenge, one problem and you are in. And it can be so difficult to get out of it, some come out wounded or battered, some lose their integrity and the worst is that some do not come out alive. So what is it about debt?
It is simply defined as when money is owed by one party to another. Yet as simple as the concept of debt is, it can get rather complicated quickly. This is the reason why so many have been unable to manage their financial lives adequately. Being in debt has been the ruin of many families and has sent many to an early grave.
This leaves one wondering if a debt can be a useful financial tool or a baggage that complicates one’s life.
Debt: A Useful Financial Tool or a Baggage?
So, debts are typically categorized into two:
Good debts - which could be a loan either from a financial institution, individual or cooperative with the potential to increase your net worth.
Examples of good debts include-
(a) Getting a college or technical education
(b) A loan to start a small business or grow your already existing business
(c) Borrowing for real estate purpose or towards home ownership, and so on.
Bad debts - a bad debt involves borrowing money to purchase a depreciating asset(s)
Examples of bad debt include-
(a) Borrowing to buy a car which is a depreciating asset
(b) Borrowing to buy clothes, consumables and other services
Can you imagine, borrowing to service your subscriptions like DSTV, Netflix or even borrow to hold a party? Did I hear you say, oh no?
Oh yes! People borrow to organise parties and even to buy Aso-ebi (uniform clothes organised to be worn to a party). It makes the party colourful, no doubt. But where does this leave you, your debt level and financial status.
Still, it is not as simple as debts just being good or bad. What defines a good or bad debt is also based on the financial situation of each individual. Hence, there are debts which are 'complicated' in nature.
Examples of Complicated Debts
(a) Borrowing to invest
(b) Consolidation loans
Can I stay out of Debts?
Debts are not necessarily a bad thing. However, being able to manage the repayment of such debts becomes a test of not just a person's character, but one's personal finance prowess. You might want to ask how can I get out of debts and stay out of it.
Firstly, you need to know how deep your ship has sunk, so, how much debt do you have? Always know who and how much you owe - make a list of your debts, including the creditor, total amount owed, interests payable if any, payback periods and a plan on how to pay back, given the state of your financial affairs.
You can use the form in the image above to calculate your debts to the minutest detail. It would give you a clear idea of your financial state, which would help you develop a pay back plan.
Secondly, decide to stop creating more debts for yourself.
Thirdly, draw out a repayment plan. If you have one already, you may want to review it and see if it is still doable with your present financial state. For example, Simi, has calculated her good and bad debts and the total is ₦1,550,000 only and her income is ₦450,000 per month. She has made up her mind that she wants to get out of this debt. First things first, she made up her mind not to get into any form of debts again, either good or bad. Then she considered using the 50/30/20 Budget Rule to draw up her budget where she applied 10% of her 20% portion set for savings and investments to pay down her debt. Use a monthly budget to plan your expenses. When you have a budget, it allows you make provision for paying part of your debt. With a budget you know when there is extra money left after monthly expenses has been taking care of.
Fourthly, keep to the time frame of payment on your monthly bills. A lot of people are in a debt predicament because they refuse to honour their monthly remittance without having a restructured pay back agreement. Hence, repayments and interests are accrued, which often lands them in trouble.
Fifthly, always have an emergency fund (EF) to fall back on. An EF allows you the luxury of having something to fall back on when you are servicing a loan and may require all your income to pay off that debt.
Lastly, know when you need help. It is important that we understand our belief system towards money. This largely influences our lifestyle and as such some have developed a chronic habit of spending. When this becomes a problem, it is okay to speak to a financial mentor or accountability partner who may proffer a solution that will help avoid financial ruin.
Sometimes a debt consolidation in spite of its drawbacks may be the only way to survive... but in doing that, one must do it with the right plan and in a structured way.
Watch out for our next article on Debt Management