Banks, loans and credit have been dominating headlines of late. The fall and bailout of African Bank put the spotlight on unsecured lending in South Africa.
But what does it really mean?
In this article we look at what unsecured loans are and what role they play for South African consumers.
Let’s start with the difference between secured and unsecured lending. A secured loan means you have assets such as a car or a home that can be used as security by the bank when they give you money. In other words, the bank knows that if you default on your loan, they can take your assets. Because the loan is secured, and the bank is confident they can recoup the money even if you cannot pay the agreed installments, such a loan comes with a lower interest rate.
An unsecured loan, on the other hand, is when you have no assets with which to secure the loan. This means that for a bank to give you a loan, they must rely solely on your continued ability to pay the loan. If you default on an unsecured loan, the bank loses that money because they have no way of recouping the debt.
Because an unsecured loan is more risky for the lender, not necessarily always a bank, the interest rate charged on an unsecured loan is substantially higher than a secured loan. Unsecured loans tend to be personal loans and micro loans taken out for a specific purpose. Unsecured lending includes payday loans and retail store cards. Overdraft and credit card debt is also technically unsecured, although these tend to be classified and disclosed separately because of their unique characteristics and significance.
For a borrower the appeal of unsecured lending is largely the speed and convenience of these kinds of loans. Cost of living is rising fast and many of us, at some point or another, need access to cash quickly.
According to Prudential Investment Managers Portfolio Manager, Craig Butters, the biggest demand for unsecured lending comes from individuals earning over R15 000 a month. According to Butters, in the fourth quarter of 2012, 41% of the total R29 billion of loans were paid to earners in this bracket.
It’s generally agreed that access to credit is important for economic growth. In a statement in 2013, the National Treasury acknowledged the importance of access to credit for both household consumption expenditure and economic growth. South Africa’s economy is a consumer driven one – and consumers need cash and credit to consume – thus credit can boost the economy. At the same time the cost of living is rising fast and salaries are not necessarily keeping pace. Some months consumers will be hit with emergency expenses, like a new set of tyres or medical expenses they are not necessarily prepared for, and in these situations access to unsecured lending are important.
When it comes to unsecured lending, it’s important to tread carefully. In 2013, of the 20 million South Africans who are credit active, one in five are in arrears. In other words, one in five cannot make the payments on their loans. This can, however, be avoided through proper financial planning.
There is no reason why you cannot, or should not, take advantage of an unsecured loan when times are tough. Be careful, though, not to fall into a trap where you are living from loan to loan. The most empowering financial decision you can take is to learn to live on a budget, and within your means.
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