So Ladies. You got your end of year bonus. It made you smile and helped you feel appreciated for all the blood, sweat and tears you put into your work for the past 12 months. But what do you do with it?
Many of us have a shopping list for that bonus. We have a dress we’ve had our eyes on, a vacation we feel we deserve, a day at the most opulent spa in town, or maybe all of the above. The more practical of us will have a savings account that we’d like to put that plush little cushion into so that we can sleep better at night.
Enter something we don’t like to talk about. While we’re thinking lovingly about that shopping list or that cushion in our savings account many of us have the flesh-eating disease called DEBT. 1. credit card balances, 2. student loans, 3. a car loan, 4. a mortgage, 5. a loan for our last redecorating project, all tick-tick-ticking with interest payments.
Now, Bushlings is no numbers woman. Remember, I’m a lawyer. I don’t naturally think like an accountant. I have to use a calculator to figure out the number of quarters in a dollar. But to me this stuff is common sense. Caveat – to the accountants who read my blog, please correct me if you think this is all rubbish. And have patience with my simple language. Remember the rest of us speak plain english.
So. Let’s talk seriously about this bonus. Starting with the concept of…
By definition in the Bushlings dictionary, Interest is the fee someone charges you in return for allowing you to use their money. I remember in college I had a roommate who used to say “I’m going to ask Mr. Barclay for some more money” as if Barclay’s Bank were a benevolent benefactor. No baby. They don’t give you money for free. Interest is the sweet little harmless-sounding name of their fee.
Some homework for you ladies. What is the interest on your credit card? What about the interest on your student loan, your mortgage, your redecorating loan, your loan-because-you-qualified-for-a-loan loan?
Credit Card Interest:
Most of us have no clue how much the interest rate is on our credit cards. So we will play with a hypothetical figure for you. Taken from the source-of-all-knowledge for the modern world (Wikipedia) we are inclined to believe that, “Interest rates vary widely. Some credit card loans are secured by real estate, and can be as low as 6 to 12% in the U.S. Typical credit cards have interest rates between 7 and 36% in the U.S., depending largely upon the bank’s risk evaluation methods and the borrower’s credit history. Brazil has much higher interest rates, about 50% over that of most developing countries, which average about 200% (Economist, May 2006). A Brazilian bank-issued Visa or Mastercard to a new account holder can have annual interest as high as 240% even though inflation seems under control at around 6% per annum (Economist, May 2006).” And we all know, Wikipedia doesn’t lie.
So from this we can gather that 1. It sucks to live in Brazil and 2. 7-12% interest is considered “low” in the USA. So you have an outstanding balance of US$5,000 with a “low” interest rate of 7% charged on an annual basis. Honey that’s US$350. THAT’s your new dress right there.
Interest on Loans and Mortgages:
You may be fortunate enough to have a fixed rate on some of your loans. Fixed rates are becoming more and more rare as our economies prove to be more and more volatile. They have been relegated to loans for small amounts for short terms (periods of time). So your vacation loan for $3,000 to be paid out over 18 months, or your redecorating loan for $10,000 to be paid out over two years, may have a chance of having a fixed interest rate. But what are they fixed at? Usually pretty high. 10-15% for 5 years on $20,000 car is something you should expect.
Variable rates are increasingly prevalent. These are usually expressed as a standard rate plus x additional percentage points. That standard rate will go up or down as the economy fluctuates. So, in the Islands where I live, interest rates are prime+1% or prime+2% and so on. That “prime” rate is the interest rate determined by the bank to be their standard interest rate. It is usually based on a national/international rate. For instance, in London, the LIBOR rate is what is used as a standard rate that banks will use to come up with their prime rate. It is the average interest rate that leading banks in London charge when lending to other banks. There are other standards – EURIBOR, TIBOR, SONIA… but I digress. Ask your loans officer what “prime” is today or whatever standard they use is and take that number and figure out your exact interest rate.
Now for those of you who want to do the math, let’s use an example. A mortgage for US$250,000.00 (If that number makes you balk, pick your own number and follow along please. Let’s not get distracted.) Prime+1% is the interest rate. You ask your lovely loans officer who convinced you that their bank was the one you should pay to use their money just what prime means today and she tells you 4.25%. You add 1% and come up with 5.25% total. For 30 years. Do you see how many thousands of dollars that adds up to in 30 years? How many vacations could that pay for?
ON THE FLIP SIDE, for the more responsible ones of us who are thinking of putting all our bonus in our savings account and just continuing to pay our debts out on a monthly basis, let’s talk about this next piece on interest.
Interest on your savings:
No financial institution hoping to stay in business is going to pay you more interest in your savings account than they will charge out on your loans. Let’s face it, if you’re getting 2% interest on your savings you’re doing very well indeed. Credit unions and cooperatives might take you a bit higher than the average bank. And there are cute little savings packages that lock your money down like CDs but they are never going to be so cute as your credit card interest of 19%.
Some more homework for you ladies – find out how much interest is being paid on your savings account.
WHAT TO DO?! SO MANY THINGS TO CONSIDER
We will use an example. Let’s say you have $4,000 of credit card debt at 12%. You have a savings account that is earning you 2%. And your bonus is $5,000. Would you really pass up the opportunity to stop paying someone 12% to use their $4,000? You can still put your $1,000 in savings and feel satisfied. The next month you will not have to meet that minimum balance of $350 that you would pay out on your credit card. You can add that to your $1,000 in savings. And so at the end of the day you end up with NO CREDIT CARD DEBT, and $1,350 in savings. Leave your credit card at home for the next month and put that $350 in savings and you’re at $1,700. Before many months pass you’re looking at having that $5,000 in savings and NO CREDIT CARD DEBT. Isn’t that great?
As we go into a new year, let’s make sure we’re looking at our finances in the right way. Debts are the enemy – we never want to find ourselves without a job in a global economy as uncertain as ours is with debts to pay. Surviving is hard enough. I will accept that some debt is necessary – mortgages, car loans, and so on. And I will also accept that some level of savings is also necessary. We need some debt to operate our lives and savings are a real cushion for when things do go wrong. But let us take control of the credit cards and spend our windfalls (and salaries) wisely. Saving is important. But let us balance our saving against our aim to be debt free. Balance our credit card interest of 12% against our interest on saving of 2%.
And where you are stumped, call an accountant. I did!