Home Loans Explained

What are Short-term Debt Mistakes?

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In this video:

  • Why you should avoid these mistakes

  • 3 short-term debt mistakes

  • An alternative to using short-term debt

Read Transcript

The 3 biggest mistakes with short term debt when it comes to getting ready to buy a house

Avoiding these three short term debt mistakes will improve your chances of getting approved for a home loan because it makes lenders look favorably on your situation. 

#1 Having short term debt

The first problem is the biggest one. Getting into short term debt at all.

The best advice is to keep things simple and avoid short term debt altogether. When you borrow money on a credit card, personal loan, car loan or store card, you are buying something that you cannot afford. If you could afford it, you would have the cash in your own bank account.

The worst thing is you are going into debt on something that is depreciating in value. That means the value of what you bought goes down over time. A car, clothes, electronics, and most jewelry all go down in value after you buy it. Pretty much everything that you buy, except for a house would depreciate in value. 

So why would you want to borrow money and pay interest for something that will be less valuable?

Here’s an alternative. Set up a savings account and each time you get paid, put some cash straight across to the savings account.  When you see something you really want to buy, you can without borrowing money and paying interest. 

#2 Having high credit card limits

Short term debt mistake #2 is having high credit card limits. Banks are good at giving you higher and higher credit card limits as if it is a reward. Don’t be fooled. This is dangerous for two reasons.

#1 If you have a high credit card limit of 5, 10, 15 or $20,000, you make it easy to spend right up to those high limits without any accountability. Then it’s hard to pay it back down. 

#2  When you apply for a mortgage and you have a $10,000 credit card limit, for example, even if you pay it off every month, the bank sees it as a $10,000 debt. To them, you have the ability to spend $10,000 on that credit card at any time. So if you choose to have a credit card, keep the limit under $5000, if you want to buy a house.

But remember, it is always best not to have any short term debt.

#3 Buy now pay later schemes

Short term debt mistake #3 is using buy now pay later schemes. There are lots of these around now.

Here’s how they work. Instead of paying the full price of an item at the time you take it home, you agree to make 4 to 6 payments over time. There’s usually a time of no interest, so it seems harmless. In your mind, you think you’ll pay it off in the interest-free period, so it’s okay.  But please don’t think it’s a good idea.  

About 50% of people will end up paying interest because they haven’t budgeted correctly or an unexpected expense comes up.  

Companies that offer buy now pay later schemes make it easy for you because it’s a little bit like a crayfish pot.

It’s easy to get in and much harder to get out.  So don’t be fooled.

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