Until recently, only the privileged few who earned enough to belong to the private bank club received the benefits of debt consolidation. Debt consolidation is basically the consolidation of one’s debt into a single account, which usually forms part of your home loan and therefore attracts lower interest rates.
Several banks have launched debt consolidation products for retail clients, including ABSA, Nedbank, Old Mutual Bank and First National Bank. FNB, for example, offers One Account to anyone with a home loan of R100 000 or more and who earns more than R150 000 a year, making it more accessible to the average middle-class consumer. The account provides transactional facilities including Internet banking, a cheque book, debit card and petrol card, all linked to a single monthly statement.
Because interest rates on home loans are substantially lower than other short-term debt, such as car finance and credit-card debt, which can be as high as 20%, the account holder benefits by paying the lower home loan rate on all debt.
Most of the consolidation accounts offer customers a loan of up to 110% of the value of their home, which is available before transfer takes place. For a first-time buyer, this additional 10% assists with costs associated with the purchase of the home, such as transfer fees.
For people who find that their homes are now suddenly worth substantially more as a result of the property boom, they can consolidate their other shorter term debt into their home loan, thereby reducing their interest rate.
There is a risk, however, that this could lead to increased consumer debt because people are able to use their homes to access more credit. Econometrix economist Tony Twine says that while debt consolidation offers consumers far more flexible access to credit as well as reducing the cost of short-term borrowing, there is the risk that people will get into more debt as the value of their homes increase. ‘The ability to borrow more could lead to overextension,†says Twine.
Georgina Ross, product manager for FNB’s One Account, says that its experience so far has shown that consumers are using the account responsibly and they have the lowest level of bad debt in the bank with only 35% of clients borrowing between 100% to 110% of the value of their homes.
Another problem is that there is a blurring of lines between short-term and long-term debt. Whereas a house is financed over 20 years, car finance is usually over five years and short-term credit card debt should be paid off over months rather than years. Yet, by increasing your bond to cover these debts, you effectively refinance over 20 years, which starts to push up the long term financing costs. For example, a R200 000 car financed over 20 years could cost you R300 000 in interest payments.
Ross says that FNB offers clients an online debt management service, which calculates your monthly repayments should you wish to pay portions of your debt off over a shorter period.
Twine says that it is important for consumers to remember that the credit facility is linked to their property. Although the banks have increased protection against bad debt in having the house as the underlying collateral, people need to remember that, if they can’t repay their credit card debt, the bank could have a claim on their homes.
Use your account
- You can save extra money by paying your salary into your consolidated account and moving your debit orders out to the 10th of the month. As interest is calculated daily, during these 10 days you will be paying less interest.
FNB says, for example, a customer with a loan facility of R600 000 who deposits her salary into her account with R10 000 of debit orders going off on the second day of the month will save R23 800 interest over the period of 20 years. But, if she moves the debit orders to the 10th of the month, she will more than double that saving to R58 500.
- While banks will lend up to 110%, the interest rate increases as you borrow more money as they want to encourage people to keep within sensible borrowing limits while offering them the convenience and cost effectiveness of accessing the full facility for shorter term debt. For example, if you borrow up to 80% of the value of your home, your loan will be at the best interest rate the bank will lend based on your credit rating. However, this rate increases with the loan value and if you borrow more than 100% you could pay up to an additional 1,5%.
- It is important to monitor your account and make sure you are not withdrawing more than your salary each month as you may accidentally go into further debt. FNB has introduced a balance update on its ATMs which shows how much you have spent that month in comparison to your deposits.