Loans and repayments

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fdaniels

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While calculating my budget I came to realise something. People have always told me that you should pay extra on your home and vehicle loan so that it will reduce the amount of instalments that you will make and also reduce the interest. This is because you will be reducing the capital amount, which means that the interest on this now smaller amount will be less. Overtime doing this will save you.

I work running the numbers on my vehicle loan and noticed that earlier bonus payments had a higher 'weighting' than later payments. So bonus payments during the first year had an amazing effect on the total interest that I pay the bank over the period of the loan. This would probably be the same for a home loan, but of course the exact periods will be different.

So it makes more sense to pay as much as possible during the initial period of your loan. Once the 'returns' are no longer worth it you should rather invest the rest.

I am thinking about this incorrectly? Should I just accept my loan repayments as debt and keep whatever money I can as liquid as possible and just invest the rest?

Edit: I just wanted to mention that the exact numbers obviously depends on the interest rate on the loan and the period of the loan.
 
You are correct - pay as much as you can for as long as it makes sense !

It will be very difficult, if not impossible, to earn the same return after tax as what you can earn after tax on your debt repayments.
 
fdaniels said:
While calculating my budget I came to realise something. People have always told me that you should pay extra on your home and vehicle loan so that it will reduce the amount of instalments that you will make and also reduce the interest. This is because you will be reducing the capital amount, which means that the interest on this now smaller amount will be less. Overtime doing this will save you.

I work running the numbers on my vehicle loan and noticed that earlier bonus payments had a higher 'weighting' than later payments. So bonus payments during the first year had an amazing effect on the total interest that I pay the bank over the period of the loan. This would probably be the same for a home loan, but of course the exact periods will be different.

So it makes more sense to pay as much as possible during the initial period of your loan. Once the 'returns' are no longer worth it you should rather invest the rest.

I am thinking about this incorrectly? Should I just accept my loan repayments as debt and keep whatever money I can as liquid as possible and just invest the rest?

Edit: I just wanted to mention that the exact numbers obviously depends on the interest rate on the loan and the period of the loan.
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If your loan interest rate is say 10%, then you'll have to invest in something that has a better than 10% return in order to "score".
Other than pyramid schemes, you're not going to beat the interest rates that banks will charge you.
 
I think he's referring specifically to the time & weighting of the extra payments.

I don't know the figures, but I've heard the same thing as you see
 
Paying interest sucks. Get out of your debts as soon as possible - you will sleep better at night. Pay as much as you can towards your debts (within reason and budget, of course) - it sucks in the start, but is worth it in the long run. Less worries = better life.

Investments, depending on the type, are risky. You could either win or lose. Paying off your debts and reducing the amount of interest you pay is a no-brainer. You win immediately.
 
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Dolby said:
I think he's referring specifically to the time & weighting of the extra payments.

I don't know the figures, but I've heard the same thing as you see
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Yep. I was talking about that.

But yah, loans suck but are pretty much a part of life.
 
Jola said:
It will be very difficult, if not impossible, to earn the same return after tax as what you can earn after tax on your debt repayments.
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Prior to saying what I am about to say it is obviously always in your interests to reduce your debt. You never know what is going to happen with interest rates going forward.

As regards the statement above, this would obviously depend on your interest rate but if you are on 10% then it would not be very difficult to earn in excess of this on an investment over a longer term. Further to this if this investment is in local equities then the returns would be tax free. The problem obviously is that your home loan interest is guaranteed.

Another investment to consider is the often misunderstood retirement annuity. Remember, within certain limits, you are getting a guaranteed return of whatever you tax rate is. So if you are on a 40% tax rate you will be guaranteed a return of R400 for every R1000 invested, before even considering your portfolio returns. Now tell me where else you get that sort of guaranteed return? ;)

But back on topic, yes, it is always a good thing to pay what you can into your debts.
 
Hi,
Interesting stuff all this money and and all the obstacles that goes with it.
To me it all boils down to: The more money you can afford to get rid off, the more you save on the longrun.If someone would come up to you and give you ten buck's and told you to double that money by any legal means in one year. How difficult would that be?
Arnie.
 
@Lancelot, wow that is interesting. I didn't know that.

There is, however, another problem. You can save 70% of your income and be filthy rich when you retire at the expensive of living like a pauper as a young person. I think that there must be a balance somewhere, where you can save enough to live comfortable in your old age and still enjoy your youth.
 
LancelotSA said:
As regards the statement above, this would obviously depend on your interest rate but if you are on 10% then it would not be very difficult to earn in excess of this on an investment over a longer term. Further to this if this investment is in local equities then the returns would be tax free. The problem obviously is that your home loan interest is guaranteed.
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It would be extremely difficult to earn an average 10% after tax on alternative investments, especially over the long term. Also, don't forget about Capital Gains tax.

LancelotSA said:
Another investment to consider is the often misunderstood retirement annuity. Remember, within certain limits, you are getting a guaranteed return of whatever you tax rate is. So if you are on a 40% tax rate you will be guaranteed a return of R400 for every R1000 invested, before even considering your portfolio returns. Now tell me where else you get that sort of guaranteed return? ;)
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This is completely incorrect, the 40% saving is just a deferral, you still have to pay all that tax at a later point in time, and possibly, but not necessarily at a lower tax rate.

The return on RA's is often very poor due to high costs and poor investment strategies - on one of my RA's at Liberty the current value is 25% less than the lump sum that I invested 7 years ago.
 
Obviously early on most of your repayment is actually interest because the amount you owe is high. This would be why reducing the capital amount early would have a significant impact. As time goes by more and more of your monthly payment is primarily reducing the capital amount. If you have had a loan for a while take a look at the interest you pay each month and you'll see that it slowly goes down regardless of whether you pay in more.
 
Carefull with those RA's, don't put all your eggs in there.
The Goverment may decide to change a few laws before you retire, and you may find yourself giving a portion of your savings away. And there's f all u can do about it.
 
RA's has peformed so bad of late I opened one with Metropolitan in 2004 and it worth 35% of the money I have put in and I can't even make it paidup as I am getting overtime and some allowence moneis so I am hoping things will change , personally they are a disaster so far
 
Terata said:
RA's has peformed so bad of late I opened one with Metropolitan in 2004 and it worth 35% of the money I have put in and I can't even make it paidup as I am getting overtime and some allowence moneis so I am hoping things will change , personally they are a disaster so far
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Is the present value 35% of the initial value? Don't you get rent in you RA, mine at Old mutual matched inflation and I got the tax break.
 
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