Just catching up on my reading today and went back to an article entitled Five Things You Need to Know About Borrowing by Cherryl Hanson Simpson. This paragraph caught my attention.
The method of calculating interest can make a big difference to the total amount you end up paying. Reducing balance loans calculate interest on your principal balance after each payment is made. Other loans work out the total interest over the term, and divide this cost into equal payments.
I chuckled as I remembered the rude awakening I had in the Bank Manager’s office.
Finance-dud me got the shock of my life when I was getting my first Grenada loan to buy a Mazda in Grenada. I’m not sure how I didn’t realize the workings of interest because I had bought a car in Jamaica (A Nissan Sentry “deportee”……remember that G?). Maybe I just wasn’t paying attention to the calculations. Or maybe because the Nissan was a used car and it was inexpensive and the loan wasn’t so large, I didn’t notice.
I’d decided on a new Mazda 323….stick shift of course cause badman doh drive automatic. The car dealer had given me a lil discount so I said yes and started the process of going into debt. There was a whole psychology behind it. I avoided debt like the plague. I lift my hats to you people who buy house and land, or go into businesses requiring significant financial outlay which you don’t have in cash reserves. So it was a big step for me.
The Bank Manager was a lovely lady who I had always enjoyed a good relationship with. When we initially spoke, she said the interest rate would have been 13%. I went home to think about it and I did my calculations. The loan amount + 13%. Yeah, that’s do-able.
The day came for me to sit with her and go over the structure of the loan. I saw that interest was calculated on the reducing balance! I protested and I felt some tears coming. Seriously. I was thinking “is it too late to back out and continue hoofing it?” The other psychological aspect to taking on debt is that it means that I would HAVE to have a job. I like being financially free and able to not work steadily if I don’t wish to (like now). Back to that fateful day.
In her small office, she calmly explained that “when the bank pays interest on your savings, it’s not only on the original amount”. So there was my Borrowing 101 class!
*NB. After having the car for about a year and realizing that it wasn’t being driven much (6 day per week job….sometimes 12 – 14 hours per day), I decided to sell it pronto. No hesitation. Found a used-car salesman who found me something decent, albeit automatic, which halved my loan payment.
Just saw the Bank Manager this week and we’ve remained connected as we share a birthday. Good Libran. And coincidentally, saw the used-car salesman. He’s since moved on to open a business selling pastries and other baked goods. Since then, I’ve not succumbed to any sweet temptations of borrowing for material things.
PS. If you’re a financial dud like me, I highly recommend a session with Cherryl. She breaks down things simply and motivates you at the same time.