Borrow only if you must

Borrow only if you must

15 time-tested ideas on how to avoid debt.

You'd think that you don't really need us to tell you that you should borrow only if you must. But a debt is easy to slip into and hard to get out of. We believe that you should not be spending your hard-earned money contributing to the coffers of a finance company. You should look at a loan if, and only if, all other avenues have been exhausted. And there are more than enough places that you would have likely forgotten to look in. Explore these and, at the very least, you could reduce the amount of loan you'd have to take. Where should you look? Read on to find out…

1. Cut back on non-essential items

If you are overstretched now, the last thing you need is more credit. It was probably some attractive advertisement that made you an easy target for buying one more electronic gadget (at a very low rate of interest, of course). A gadget that you do not need! We suggest you address your spending habits before you inundate yourself with debt and consign yourself to a lifetime of interest payments and late fees. They are the source of the problem. Even small things matter. Try and reduce the number of cigarettes you puff away and you'll be surprised to learn how much you can save on a long-term basis. The powers of compounding can be an eye-opener.

Cutting back on non-essential items does two things. One, it leaves you with more money every month: money that you can use more productively. You can pay back borrowings and invest smartly. Two, it paradoxically increases your borrowing capability. The more your repayment capability, the easier it is to borrow.

2. That forgotten treasure: your PF

Have you transferred your PF corpus from your previous employers? If you haven’t, do it. In every job, you make a contribution every month to your provident fund account. Your employer also makes a similar contribution. When you change jobs, you have the option to transfer the money accumulated in your account to the new provident fund account opened by your new employer. But many neglect to do this. Check whether you have any accumulated money in those PF accounts. The money will still be safe and earning you a nice interest. Set the process in motion to transfer them. The amount lying in them can come as an agreeable surprise to you.

There is another option: of encashing them. But, don’t encash blindly. Compare the compounded annual rate of return against the cost of the loan. If the compounded rate of return is lower, it makes sense for you to encash. Otherwise, stay invested.

3. Hit on your family and friends

Before going to a lender, explore all the options of borrowing from your relatives and friends. Unless you're the black sheep of the flock (and even that's not an irremediable state!), chances are you'll get the money at either a very favourable interest rate or without any interest. They may even tolerate a late payment or two. But if you want to maintain the relationship, it's best to keep things straight and insist on a written agreement.

4. Recover dues

If you've never been borrowed from, you're a lucky person (or you're broke always, in which case, we can’t help you). If you form a part of the real world where people rely on advice like the one you've just finished reading (Point 3, above), there are surely people who have borrowed from you and... ahem... conveniently forgotten to pay back. Turn enforcer. And get your money back. Remember, it’s your money. The rule: Better my money than borrowing at usurious rates.

5. Encash your savings and fixed deposit holdings

It makes perfect financial sense to cash in your savings and investments and use the proceeds instead of contracting a fresh loan. The reason is simple. It would make sense to remain invested in your fixed deposit or bank savings if the return on these were greater than the cost of your loan. But in today’s low interest rate environment, high-quality fixed deposits earn you between 11 and 12 per cent per annum. Post-tax, the return is even lower. Even a secured loan -- a loan backed by an asset like your car will rarely be available below 14 per cent. So the moral is: the higher the interest rate on the fresh loan, the more attractive it is to use your funds for meeting a contingency. And it will always be in your interest to break low-return generating fixed deposits. The caveat: Don’t break your low-generating but long-term retirement funds. Compounding works wonders there. We are recommending that you break only your short-term fixed deposits.

6. Take an advance from your employer

If the employer has a no-loan policy, then explore an advance on your salary. This could be structured in such a way that it would be deducted from your salary over a few months. The amount you could take as an advance will be limited and based on the salary you draw, but it beats borrowing at commercial rates. And every penny raised cheaply counts.

7. Take a low-interest loan from your employer or other sources

Employers and societies have the provision of extending a short-term loan at a highly subsidised rate of interest, especially to longstanding employees. Loan amounts are generally based on the length of service you have put in and your position in the organisational hierarchy.

8. Take advantage of the no-gift-tax rule

Gifts are not to be received only on birthdays and anniversaries. Find someone who is willing to make you a gift of money. That’s money that you don’t have to borrow and pay interest on. You can the put this to good use instead of taking on a loan or a mortgage.

Some things to remember: Keep gifts within the family, so that the authenticity (for the tax authorities) can be established easily. Gifts should be in small amounts, since verification is unlikely in small amounts -- say, Rs 20,000. If your yearly income plus the gift exceeds Rs 1.5 lakh, you'll have to pay tax at the rate of 30 per cent against it. But remember, the entire amount is a gift. So pay tax and use the rest.

9. Sell stocks selectively

Everybody has some junk stocks in their portfolio. This is a good opportunity to, well, junk them. Face it: you'll never do it otherwise. Not wanting to take a loan can actually be an opportunity to spring-clean your stocks portfolio. Also consider selling other stocks where you can book profits. In short, take a close look at your portfolio and decide what you can sell. Remember, with markets going up and down, you can still enter the stock at a later date. Right now, what matters is that you want your loan amount to be as small as possible. However, don’t distress-sell your best stocks. Selling them might cause serious harm to your long-term portfolio.

10. Borrow against your life insurance policy

While we constantly stress the point that insurance is not an investment avenue, the insurance policy does accumulate some value as the years go by. And if you've held the insurance policy for a sufficient number of years, you would have accumulated enough surrender value on the policy to borrow against the policy. You can expect to borrow up to 85 per cent of the surrender value accumulated.

Interest rates are typically well below usual commercial rates (about 10-11 per cent), and you can take your time repaying the loan. There is only one downside: the (remote) possibility that you may die before it's repaid. In that case, the outstanding balance plus interest will be deducted from the face value of the policy payable to your beneficiary. As a negative, that seems a small price to pay to get out of debt now.

11. Take a loan against your provident fund

Explore taking a loan against your public provident fund account. You are eligible for a loan against your PPF after three years and you can take a loan up to 25 per cent of the value accumulated in the fund. Also, this loan is available at a concessional rate of interest of 12 per cent.

12. Borrow/sell jewellery

Indians have a remarkable fetish for gold. Not surprising. We are one of the world's largest consumers of gold. Consider utilising this unproductive asset. Sell your gold and silver to realise some money. If you're sentimental about the charm bracelet that your husband gave you on your last wedding anniversary or grandpa's gold signet ring, then consider borrowing against it. It will cost you lesser than commercial rates.

13. Hold a garage sale

Consider selling your old TV, bicycle, kitchen appliances that you bought and never used, as well as all the wood and other fittings left over from last year's renovation. You'll be surprised by the amount you can raise. And as a bonus, your house would have had undergone a bit of spring-cleaning.

14. Faithfully enter contests

You never know when you might get lucky: ask those people who entered "Kaun Banega Crorepati" and won some fabulous prizes. Randomly enter all slogan contests too. And drop your name into every lucky coupon box that you can find.

15. Dig your backyard in the hope of finding a treasure!

Even if you don't unearth a pot of gold, your backyard will be ready for being planted.