Christmas and the high interest rate trap

The pre-Christmas period can be a very treacherous time for the unwary.  Our buying habits become more relaxed and we let our guard down.  It is the highest spending time of the year.  A Channel Nine survey found that spending on presents and Christmas festivities is anticipated to increase again this year.

The recent period of inflation has impacted many Australian families.  Inflation has added to the weekly grocery bill, petrol costs, electricity bills and also rental or mortgage payments.  This Christmas is a time for caution. 

• So why is this period potentially perilous to your finances?  If we have the financial resources to increase our spending then there is no danger.  If we fall into the trap of borrowing and paying high interest to fund our Christmas spend then we are in for a shock.  The feel-good time before Christmas can lead to debt-based anxiety after Christmas.

Remember that advertising and marketing companies are very good at extracting money from us.  That is their job.  The intensity of advertising and increased social pressure prior to Christmas act to seduce us to spend.  And spend we do.  But what if we really can’t afford it?

• Credit card advertisements are designed to be persuasive and appeal to us, often highlighting the benefits and rewards associated with using a particular credit card.  While these advertisements can be enticing, it’s crucial that we view them with a critical mindset and consider the potential drawbacks.  The advertisements often emphasize lucrative rewards, status offers, travel perks, and other benefits to attract consumers.  They often feature celebrity endorsements to create trust and credibility and portray a desirable lifestyle.

Christmas is a time of joy when we take holidays, collectively celebrate, indulge in yummy food and exchange gifts.  However, Christmas is also a time to be mindful.  Mindful of how we show our love for our friends and our family.  Isn’t it our thoughts, our actions and our emotions, not by our spending.

• Back to interest rates.  Who charges these high interest rates?  Let’s take a look.  High interest rates are associated with credit cards, short term loans where there is no credit check and, to a lesser extent, buy-now-pay-later (BNPL) providers.

So how high are “high interest rates”? 

The most common form of short-term debt is credit card debt.  Credit card interest rates vary from 24.99% per annum to a low of 7.49% per annum.  Most credit cards charge interest in the high teens and with many above 20% per annum.  Of course, many credit card providers do offer an interest-free holiday period if you transfer your debt from a competitor to their credit card.  This transfer simply delays the inevitable.  The funds and accrued interest must eventually be paid back.  Even if you have an “interest-free holiday”, a growing credit card debt is a red flag and should be avoided whenever possible.

A common feature of the offer by credit card providers of “interest-free transfers” is that they are only available to new customers.  Interestingly, the existing loyal customers of the credit card provider are not eligible.  So much for loyalty!

Then, of course, there are the short-term loan providers where no credit check is required.  The costs associated with such short-term loans are prohibitive.  Borrowers can expect to pay complex costs that exceed 45% per annum plus an up-front fixed fee.  The total cost to the borrower is shown in the Comparison Rate which often exceeds 65% per annum.  Such high-cost loans can result in you paying thousands in interest and fees for a modest loan. The best advice regarding these loans is simple.  Don’t!

The phenomenon of Buy-Now-Pay–Later is an interesting new debt mechanism.  BNPL offers can be tempting, providing consumers with the option to purchase items and delay payment until a later date.  You only pay interest if you are late making payments.  However, the seduction here is more often associated with increasing your spending, as much as 26% +. It is in their marketing material to convince the business owner to offer this as a payment option to their customers.

A general rule for using a BNPL service is to ensure at you have the financial resources to “Pay Later”.  Otherwise you will suffer penalty interest rates or fees.  And if you fail to pay later then you will experience BNRL “Buy-Now-Regret-Later”.   Furthermore, if you are already struggling with debt it makes no sense to use a BNPL service to make a purchase. Another Don’t!!

We are constantly bombarded by offers from all of the above providers.  Credit cards are on offer from banks, airlines, stores and a myriad of other sources.  Offers of short-term loans regularly appear on television with the catch-cry that you can have the money in your account in minutes. 

• It is far better to tailor your spending than to find yourself drowning in debt.  And it is not just the initial debt that you must repay.  This debt will quickly grow in size because of the high interest rates that are applied to it. Avoid all high interest rate offers. 

So how do I buy the kids presents and still have a great Christmas?  There are alternatives and they make sense.

1. Take control of your spending and only spend what you can afford.  Compile a list of your expenditures and then break it up into presents, food, alcohol, accommodation etc.  This Christmas budget will provide you with a controlled spending structure.  Once you have set your spending limits it is important that you do not exceed them.
2. Consider lower-priced alternatives.  For example, smart buyers grab the Black Friday specials, Christmas sales, hunt for presents in Op-shops and look at e-bay and Gum-Tree for ideas and gifts.  Baking is a great way to provide personalised gits to your extended family.
3. Avoid unrealistic or high expectations.  For example, should you give your son or daughter 4 or 5 (or 8 or 10) presents when one or two well-chosen gifts makes sense?   And do they really need that latest iPhone?
4. Reduce the cost per gift and the number of gifts that you need to buy.  This can easily be done by “Secret Santa” or “Kris Kringle” where the cost per gift has an upper limit and the number of gifts is reduced.
5. Start planning early.  This will allow you to take advantage of sales and also avoid any last-minute panic buying.
6. If you find yourself falling prey to the high interest rate trap, think about how you will feel in February when the statements arrive.  That should act as a remedy to curb your desire to spend.

Finally, there are many who already find themselves heavily in debt.  Importantly, this is a situation that can be overcome and has previously been overcome by many.  Take proactive steps to manage your financial situation and working towards becoming debt-free.  Included are budgeting, cutting unnecessary expenses, professional advice, communicate with your bank (or other lender) and potentially increase your income.

If you are in this position, you must be realistic over the Christmas period.  Do not suffer any further debt and cut your expenditure to meet your budget.

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