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The cost of credit

Life is full of surprises, and sometimes you’re faced with an expense that you’re just not prepared for. In such cases, many people will rely on a personal loan. But credit comes at a cost, and many people have no idea how much a loan will cost them. Here we take a closer look at the different factors affecting the cost of a loan in the hope that these will help you to make an informed decision when you need to apply for credit. 

Interest and fees

Interest  

Interest rates can vary quite widely and depend on a number of factors such as credit type, repayment term, and the credit score of the borrower. Also, while it may be tempting to go for a flexible interest rate, this can be very costly if interest rates go up. It’s much safer to go for a fixed interest rate.  

Initiation fee  

This fee is paid when you first take out the loan and is paid only once. Depending on the amount, type of loan and creditor provider, this fee can easily exceed a thousand rand. An initiation fee can be added to the total loan amount (and paid in the monthly instalments) or paid upfront. It’s better to pay it upfront.   

Service fee  

With almost all loans, there’s a monthly fee for administration costs. Of course if you have multiple loans, these can add up. For this reason, some people who have several loans might bundle their debt into a single debt consolidation loan, thus reducing servicing fees to one.      

Credit life insurance  

If you died or became disabled or retrenched, your family could become responsible for settling your debt. Credit life insurance ensures that this does not happen. In the event of death, disability, or retrenchment, your debt would be covered by the insurer. 

Loan term

The basic requirement of any loan contract is to meet minimum monthly payments over a predetermined period of time. If you can do that, great! But if you want your loan to cost you as little as possible, pay it back as soon as you can (the sooner you pay back your loan, the less interest and admin fees you’ll pay). Don’t be tempted by low monthly installments. They will only cost you more in the long run.   

Here’s some math to illustrate the point. Let’s say that you take out a personal loan for R100, 000 at 18% interest and with credit life insurance at R4.50 per R1000. The total cost of the loan could vary greatly depending on how quickly you paid it back. 

Over three years – R159,665

Initiation fee: R1 197 (once-off)

Admin fee: R68.00 per month

Monthly instalment: R3,686

Total admin fees: R2,448

Total interest paid: R30,169

Total credit life paid: R16,394

pie chart of loan costs #1

Over four years – R167,315

Initiation fee: R1 197 (once-off)

Admin fee: R68.00 per month

Monthly instalment: R2,995

Total admin fees: R3,264

Total interest paid: R40,995

Total credit life paid: R21,859

pie chart of loan costs #2

Over five years –R184,889

Initiation fee: R1 197 (once-off)

Admin fee: R68.00 per month

Monthly instalment: R2,589

Total admin fees: R4,080

Total interest paid: R52,288

Total credit life paid: R27,323

pie chart of loan costs #3

At the end of the day, while it’s important to build a healthy credit score, it’s advisable to stay away from dipping into credit too much. Only take out a loan when you really need to, as it can be costly. If you are currently trying to decide whether to take out a loan for a certain expense, check out our blog article When to take out a personal loan. If you are looking for more information on how to better manage your finances, sign up for our Money Mailer. In this free monthly newsletter, we serve up the best tips on a range of topics from how to cut costs in your day-to-day spending to ways to improve your credit score.

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