The Case for Credit

We have all heard that saying, “money makes the world go round”. In fact, that statement is completely incorrect. The actual truth is that CREDIT makes the world go around. Without access to credit, the world economy will collapse, and poverty will be far worse than it is now.
Having a dream of being debt free is great, and one should always work toward it if that is your goal. The reality for most consumers in South Africa and the rest of the world however is different. Most consumers will rely on credit and debt every month…. And there is nothing wrong with that.

The proper use of credit can have a very positive effect on your lifestyle and quality of life. It is when good credit facilities are not used correctly that good credit becomes a spiral of bad debt. There is no shame in making use of credit. Buying a car or house cash is not within the means of most consumers. Even if a consumer was able to purchase a car cash we would be asking a very big “why?”. Most people will answer… “Because I don’t like debt”. That is all good and well, but will buying a car with hard earned cash now, put you in a better financial position 5 years from now?

Let’s have a look at some basic figures.

Let’s say you have R200 000 cash and you want to buy a car. You put 10% as a deposit on the car and you invest the remaining R180 000 for 5 years with an inflation beating fund. Let’s say you invest with a mutual fund that can easily offer a rate of return over a 5-year period of 8% per annum. This type of investment will see your R180 000 grow to R 264 479.05 in 5 years’ time according to Liberty’s online calculator.

Should you follow the scenario above, you would now need to finance the vehicle. Minus the R20 000 deposit, you would need to finance R180 000 over 5 years.

According to Wesbank’s Vehicle Repayment Calculator this would translate into an instalment of R4008.08 per month with R240 533.41 paid in total at an interest rate of 11% over the 5 years. Note that 11% is a high interest rate and if you have a good credit record, you might get sub-prime rates.

Considering the total return on your investment minus the total paid on the vehicle you will be R23 945.64 ahead plus you would have had the use of the vehicle during this 5-year period.

Should you have decided to purchase the vehicle outright you would have spent R200 000 of your hard-earned cash on a vehicle which depreciates with 20% in year one and a further 15% – 25% per year for the following 4 years. On average, a new vehicle loses 60% of it’s value in the first 5 years.

That means, your R200 000 would be worth only R80 000 after 5 years should you decide to purchase the vehicle outright.
When considering the depreciation, you’ll in technical terms be R103 945.64 better off after 5 years when opting to financing your vehicle and invest the remaining cash.

The above example might be over simplified but is very practical. It supports our statement that Credit is not necessarily a bad thing and can be a wonderful instrument when used responsibly.

The biggest mistake consumers make is to approach credit in a reactive way when they need quick cash. Credit should be approached in a calculated manner.

Take your time and have a look at your credit facilities to make sure the facilities are optimised to improve your financial position and not drain your finances.

Should you have challenges dealing with your credit facilities or have already let your credit facilities slip to far toward becoming bad debt, please do not hesitate to contact CreditSmart. We’ve helped thousands of consumers to effectively take control of their credit facilities. Read about some options here.

A Very easy improvement to your credit facilities could be to have a look at the Credit Linked Insurance on your accounts. Read more about CreditCover here.