KNOW THE RULES - All about credit

Reducing the cost of credit

We pay for the convenience of credit through interest rates as well as other fees and charges. And just as you probably take steps to reduce the cost of other goods and services you use, it makes sense to take a few basic steps to trim the cost of credit.

Choose the credit best suited for your needs

Different types of credit are better suited to some situations than others, and choosing the appropriate form of credit can help you minimise interest payments and manage your money better. A personal loan, for example, with fixed repayments and a set term is better suited to large purchases than, say, a credit card.

Let’s say for example that you want to buy new furniture costing $3,000. Here’s what it will cost you, once interest is included, using three different types of credit. The personal loan is the cheapest option for this type of purchase because it combines a relatively low rate with a short term.

Type of credit	Interest rate	Monthly repayments	Time taken to repay credit	Total interest charge
Credit card	15%	Minimum repayment of 2% of outstanding balance	26 years	$4,456
Personal loan	10%	$63 monthly	5 years	$824
Home loan redraw	7.25%	An extra $23 per month when $3,000 is added to an existing mortgage of $200,000 payable over 20 years.	20 years	$2,691

Shop around between lenders

These days you don’t have to be a long term bank customer to get credit. With a wide range of lenders to choose from it pays to shop around for the best rates and terms. On long term loans in particular, even a small difference in interest charges can make a substantial difference to your overall interest bill. For example, on a $300,000 home loan repayable over 25 years, opting for a lender charging 7.00%, rather than one charging 7.25%, can cut your overall interest charge by about $14,400.

Maintain a healthy credit bureau file

The best rates are offered to consumers with a healthy credit track record. Maintaining a good credit repayment history will give you a wider choice of lenders when you need finance. This means being able to choose from your preferred lender, rather than being limited to lenders charging higher rates. For more on your credit bureau file take a look at ‘Your credit bureau file’

Pay more than the minimum

Wherever possible, repay more than the minimum specified by your lender. This may not always be possible with some personal loans, but on long term debts like a home loan, or higher interest options, like a credit card, making extra repayments will not only reduce your interest bill, it will also mean being debt free sooner.

Go for a shorter term

Reducing the term of a loan means paying interest for a shorter period, and while your monthly repayments may be higher, it’s a surefire way to trim the cost of credit. For example, on a personal loan for $4,000 repayable at 10%p.a. opting for a three year term rather than a five year term, will see you reduce the total interest you pay from $1,099 to $646.

Don’t pay for features you won’t use

Different types of credit often come with added features – but more options generally means higher fees. Whether it’s redraw facilities on a home loan, or reward programs on a credit card, don’t pay for features you are unlikely to use.