Debt is the amount of money you owe to others, this can be a loan from banks, private lenders or money borrowed from your friends and family. No one likes to be in debt but sometimes it becomes the need of the hour. And going into a debt is not bad all the times. When you go for a debt in the medical emergency or for buying a home or car it is worth as at the end you get the ownership of that particular thing. But there are many other debts which are not worth and can prove to be a trap for you as your finances get worse and worse due to those debts.
The reason behind debts becoming debt trap is: Repaying some debts becomes never-ending process as whatever you pay in repayment as EMIs just goes on interest and hence principal amount is not reduced and hence, it becomes a never-ending process.
Debt Traps and How Can You Avoid Them
- Credit Card
Credit cards are one of the major debt trap to which most of the people get attracted to easily. Credit cards offer you money whenever you want without any hassle, you just need to swap it. Another advantage of a credit card is you can buy whatever you want even when you don’t have money and can pay it instalments later. All this looks so attractive and easy that most of the people go for it. But the major disadvantage of a credit card is the interest rate on a credit card starts with 22% and can go up to 34%. Hence, repaying it becomes so difficult.
Some of the other disadvantages of a credit card are fees and charges related to it.
- Late Payment Fee: If your payment towards your credit card is even one day late, you may have to pay a late fee.
- Cash Advance Fee: Most of the credit card companies charge 2%-4% of the amount advanced.
- Balance Transfer Fee: Some creditors charge as up to 5% when you transfer the balance from one card to another card. So, inters to get the lower interest rate you need to first pay a fee for it.
- Annual Fee: Most of the credit cards have annual fees.
How to Avoid This:
- Don’t use your credit card frequently. Use only when it’s necessary.
- Makes payments on time
- Opt for the EMI option when available.
- Mortgage Refinancing
When interest rates are low, it becomes tempting to refinance your home loan. As your monthly EMIs are going to reduce, and everyone thinks that they can save some by doing this which can be a great help as they can use it for many other things.
People only with the good credit score can qualify for the lowest rates.
When you get qualified for a low rate, there are still other considerations, such as: you may be asked that sign up for another 30 years of mortgage payments which again will make you pay more than you were supposed to. There are some fees and charges for balance transfer too and when you go for a long tenure in balance transfer your EMI automatically decreases but in long run you will be paying much more on the interest. Hence it can be a trap as instead of bringing you out of debt it drowns you into paying even more.
How to Avoid This:
A balance transfer is a good thing and can be very helpful when opted wisely.
To avoid the trap in balance transfer you should first find a lender who is ready to lend you at a lower rate than the existing lender. When you get the lender to calculate the total amount which you will be paying to the lender including the balance transfer fees, interest and the principal amount. Also, check for the outstanding amount you have, if it is not much then savings can be done.
- Loans for Luxuries
There are some loans which are unsecured and needs no collateral and can be availed for so many reasons for purchasing gadgets to a world tour. The interest of these loans are a bit high and repaying them can be a bit hard. These loans look so tempting that many of the people go for it without thinking twice. This loan can prove to be a trap when you are unable to repay this loan and go for another loan in order to repay the first one.
How to Avoid This:
These type of debts can be avoided only when you don’t opt for them. Go for them only when necessary. And when you decide to go for it first shop around in the market and online for the interest and other charges. Hence always opt for an amount which you can repay easily. Go for a short tenure as the interest of these loans are high and can cost you more when opted for loan tenure.
So, who is a wise borrower?
“He who shall borrow only in times of emergencies or acquire an asset whose value is going to appreciate with time and repays the loan before the set tenure is a wise borrower.”
- It doesn’t really matters, what it conveys matters!
Well, debts are really good as long as the purpose behind them is justified. All loans are not bad either. An individual who leads a financially disciplined life will never fall into any debt trap and instead would end up making most out of even the loans they borrow. For an average Joe, spending on wants always seems justified more than saving for the needs! This is what keeps Joe an average throughout his life. Loans are not a joke and hence should never be treated as such. Loans are meant to be availed for specific needs and the repaid as soon as possible. Becoming lifelong friends with loans is almost never a wise idea.
