- This Financial Literacy month, understanding the distinction could help under-pressure consumers avoid a debt spiral
Under pressure from rising electricity prices and municipal rates, South African consumers now face soaring fuel costs, which will have a knock-on effect throughout the economy.
The consequences for people with little or no financial wiggle room are already apparent, with applications for debt counselling in April already significantly up compared to last year.
National Debt Counselling Association chairperson, René Moonsamy, says when faced with rising costs, many consumers have few options: make use of the ‘two-pot’ system to dip into retirement savings, access more credit, or a combination of the two, or seek help from a debt counsellor to restructure debt and get protection from creditors.
“The reality is that we’re going to see people borrowing more. In this context, understanding debt and the distinction between so-called ‘good’ and ‘bad credit’ is important. With consumers battered by a storm of rising costs, and April being Financial Literacy month, now is a perfect time to explore the distinction.”
Credit itself, she explains, is neutral. It’s not the type of credit that’s at issue. What characterises it as ‘good’ or ‘bad’ is what it is used for, how much it costs, and whether the consumer can afford it.
‘Good’ credit is affordable, well-managed and used for productive purposes that improve your long-term financial stability. For example, buying a car to get to work or generate an income, furthering your education or paying for a renovation to add value to your house.
Payments should be affordable relative to your income, and the interest rates should be in line with a consumer’s risk profile. Making payments on time allows you to build a positive financial record. This will enable you to access financial products at better rates, because your credit score shows you are financially reliable.
The National Credit Act requires lenders to ensure applicants can afford credit before approving it. At the same time, consumers need to be truthful when applying for credit about their incomes and expenses.
“The problem is that while responsible lenders carry out all the required checks, desperate applicants can misrepresent expenses or income on the application. This is when borrowing becomes unaffordable, ‘bad credit’,” says Moonsamy.
‘Bad credit’ is unaffordable, high-cost or poorly managed borrowing, usually for short-term consumption that adds no lasting value.
Examples include using credit to fund lifestyle or basic living expenses, or taking new credit to repay old loans.
“In simple terms, ‘good credit’ helps you acquire assets and achieve financial stability and sustainability in the long term, while ‘bad credit’ is usually unaffordable, often used for short-term consumption and damages your credit record.”
“There’s nothing inherently wrong with credit. It’s integral to a functioning economy. What’s important to understand is whether it benefits you or not. We understand, however, that for people already caught in a debt spiral, the distinction between ‘good’ and ‘bad credit’ is academic, in which case the best course of action is to get help from one of our members. Delaying can further negatively affect your credit score and put your assets at risk of repossession, and if you wait too long, debt counselling may no longer be an option,” says Moonsamy.