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Debt – Repayment Considerations

by | Aug 30, 2017 | AHEAD OF THE CURVE |

To be Debt free is a goal for most of us. Debt – A promise to repay borrowed capital to the lender by a certain date in the future. The lender is compensated for taking on the risk that the borrower may default by charging interest on the loaned sum. That much is Simple!

Metis Ireland are not regulated to advise on Mortgages / Debt. The following is based on observations only and should not be construed as advice.

When setting the goal to be Debt free it is important to differentiate between the types of Debt that you have. How did the Debt arise? Mortgage debt for example differs greatly from high interest catalogue debt:

  • Secured Debt – We will use principal dwelling house (PDH) Mortgage as the example – The borrower pledges the asset as collateral (or security) in return for the loan. Interest rates charged on secured loans are lower than that on unsecured loans as the lender has some redress where a borrower defaults. Interest is Illustrated as a percentage charged for a whole year known as Annual Percentage Rate (APR). For example a mortgage variable rate may be around 3.8% APR – After a mortgage is paid off you will own the Property Asset.
  • Unsecured Debt – Such as Overdraft/ Credit Card/ Personal Loan – The borrower promises to repay a sum in the future, generally short term agreements. There is no collateral required for this structure however the APR is higher. For example a personal loan variable APR may be around 5% – Generally after an unsecured Debt has been paid off, you will not have added a gain / asset to your overall portfolio.

So why does it matter if we do not pay off debt in a timely manner?

  • The loan will continue to erode your future purchasing power. The €100 bag purchased from the proceeds of a Personal Loan with an APR of say 12.5% will cost €112.50 where the debt is outstanding in 1 year.
  • The greatest concern of all is where you fall behind on repayments, the interest is compounded. Compound interest is interest charged on the interest that was scheduled to be paid (on the missed payment). This is a situation that should be avoided at all costs or focused on where you are in arrears.
  • Payment history is reported by your lender to the Irish Credit Bureau (ICB). The ICB holds information on a borrower’s mortgages, car loans, personal loans, leasing/hire-purchase agreements and credit cards for 5 years after the loan is closed. Your data is compiled and you are given a credit score / credit rating which is an estimate of your future ability to repay a loan. Your score is reviewed by lenders when assessing loan applications. This score is available to you for a fee of €6.00 from the ICB – Worth checking out!

 

Secured Debt Considerations – Whether you are up to date or have fallen behind on your mortgage repayments there are steps that can be taken to ease the burden:

Where you are up to date on payments:

  • On a variable rate mortgage there is no penalty imposed for making additional lodgements against the loan (over and above your regular monthly repayment). You may chip away at the loan each month or when you have additional lump sums *Lodge the money against the loan to reduce the balance. This reduces the overall interest you will pay as the remaining balance will be reduced.
  • You may switch mortgage providers to benefit from the lowest APR available on the market. A lower APR means lower monthly repayments, making no change to the terms of your loan.

Where behind on repayments:

  • When in arrears on your Home Loan, or at risk of falling in to arrears, it is important to engage with your lender, to prevent compounded interest being applied to arrears. Your home loan is protected by the Mortgage Arrears Resolution Process (MARP) framework under Code of Conduct on Mortgage Arrears (CCMA). You can fill out a Standard Financial Statement available here with your mortgage lender to find a suitable repayment arrangement appropriate to your financial situation.

As a starting point when looking at Debt the below table shows debt priority and the reasons for it taking priority:

Priority Debt Reason
Home Loan – Clear Arrears Property is at Risk of Repossession

Compound interest being applied to Arrears

Other Secured Loans – Clear Arrears Property is at Risk of Repossession

Compound interest being applied to Arrears

Unsecured Loans – Clear Arrears High Interest Rates on loan

Compound interest being applied to Arrears

Unsecured Loans – Clear outstanding balance High Interest Rates (example 12.5% APR)
Secured Loan – Clear balance Lower Interest Rate (example 3.5% APR)

 

We are in a low interest environment, meaning that it can be difficult to earn growth on investments the inverse effect is the current cost of credit is low. This environment favours borrowers as they pay less interest on variable rates loans. Now seems to be a good time to tackle your Debt and get your Financial Affairs in order.

 

Niamh Breedy QFA RPA

Financial Planner

Disclaimer

Metis Ireland Financial Planning Ltd t/a Metis Ireland is regulated by the Central Bank of Ireland.

All content provided in these blog posts is intended for information purposes only and should not be interpreted as financial advice. You should always engage the services of a fully qualified independent financial adviser before entering any financial contract. Metis Ireland Financial Planning Ltd t/a Metis Ireland will not be held responsible for any actions taken as a result of reading these blog posts