Tuesday 14 August 2018

Karl Deeter: Stop-gaps go against the advice but sometimes it makes sense to borrow short term

(stock photo)
(stock photo)

Karl Deeter

As a financial adviser we are constantly taught to advise people away from short-term debt, in particular for things that don't have any long-term value. The idea being that advice should instead focus on getting a person's general house in order and in turn they won't need short-term stop-gaps.

This always works well in the text books but not so much in reality.

Equally, there are times when it is actually common sense to use short term debt to reduce outgoings, so here is a simple example.

Imagine a person needs to tax a car that has a 1.5l engine. The full cost would be €514 for the year. They can't afford to pay for that all at once so instead they opt to tax the car every three months for €145 per quarter.

What is happening in this situation is you will end up paying €580 to tax the vehicle for the full year. That's a cost of €66 over and above the single payment annual cost.

It's the same as if you are paying interest. To get an idea of how much, just divide €66 by €514 and as a percentage it's nearly 13pc. The mathematics of it mean that you pay dearly in return for this, it's lower than credit card prices, but higher than personal loan rates.

So what might be an alternative where you can get the discount but also not pay a high rate on credit to do so?

'Credit' or 'borrowing' is all about moving money through time - you take money from the future and spend it in the here and now. In return for doing so you pay interest. So let us use that system to our advantage.

If you have a credit card you can pay for it all at once, that gets you 30 days free credit.

During that time you could look to a credit union for a loan at a rate of 9pc and you pay it over the remaining 11 months.

In this case you will pay €537 for the car tax over the year which is a savings of €43. You will make monthly payments because they suit you for cashflow, but still obtain a discount.

That might not seem like a lot, but then factor in that nearly every insurance you pay works the same, in a market of rising car insurance prices, house insurance and life insurance the savings by doing this on all of them could be substantial. Do the sums and see for yourself!

@KarlDeeter is a financial adviser & compliance manager at www.mortgagebrokers.ie

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