How to Borrow Without Incurring Unnecessary Debt

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Borrowing wisely can help anyone to generate wealth. There are many circumstances in which it’s appropriate to borrow money, so it’s worth keeping a few rules of thumb in mind when taking on debt. There are distinctions to be made between “good debt” and “bad debt,” but the greatest impact of all may be whether you manage whatever you borrow effectively.

Here are some very simple, and essential, dos and don’ts of borrowing to live by.

Don’t do this…

Don’t borrow when you’re already deep in debt. You can’t solve debt with more debt. Cut your losses and trim your budget before debt snowballs out of control. How do you know if your debt is excessive? A simple calculation called the debt-to-income ratio compares your monthly gross income to your monthly debt payments. Anything over 43 per cent is worrisome, and a sign you should avoid new debt at all costs.

Don’t borrow more than you can afford to repay. This tip sounds obvious, but it still gets many Jamaicans into trouble each year. Be absolutely certain that you’ll be able to pay off the debt in full. That means being certain you’ll have the income you need on an ongoing basis to repay, and that you can cut back your budget to afford it. That’s why taking on a mortgage, or any other long-repayment term loan, is such a huge undertaking, and why borrowing less than you can afford is the most prudent action.

Do this…

There are equally simple and concrete steps you can take to make borrowing more efficient, and reduce any repayment risks you might encounter over the life of the loan. These steps also have the added bonus of helping to improve your credit over time.

Concentrate your borrowing to a single lender, or as few as possible. Borrowing from a single lender whenever possible, such as having your mortgage, credit cards, and personal line of credit with your bank, helps to obtain lower interest rates, minimises fees in some cases, and establishes good will for moments of financial difficulty. Build a good reputation with a primary lender, and over time, you’ll reap the benefits.

Keep your overall credit utilisation ratio below 30 per cent. It’s the proportion of the credit you’re using to your overall available credit. A ratio over 30 per cent lowers your credit score. It also means you’re simply living on too much credit and likely facing financial difficulty. Your credit utilisation ratio comprises a significant portion of your credit score calculation, and keeping it below 30 per cent yields you the greatest points.