What is inflation?  

Inflation is the measurement of the average increase in prices of goods and services in an economy. It is a key indicator used by central banks to protect the value of the currency in the future. The current inflation rate in South Africa is 5,2%. This means that your Rand is worth 94,8 cents compared to a year ago.

How does inflation affect you?
It stands to reason that inflation needs to be contained. If not, we will simply be poorer in the future. This is the primary function of our Reserve Bank which has an inflation target of 3% to 6%.  At the current rate of inflation, the rand will take 14 years to halve in value. If inflation moves to, say, 12%, then your rand will halve in value in 6 years.

You have to save.
SA Households are barely making ends meet, so very little is being saved. Saving is the only way towards financial independence. If you are merely existing from month to month the problem will only get worse as the value of your monthly income is eroded by inflation. Saving towards a nest egg will provide a source of funds in the future which you can use to counter inflation and wean yourself off having to generate an income.

Keep it real.
To improve the purchasing power of your savings your returns should be higher than the rate of inflation. If, for example, inflation is 6% you should aim for returns above this. If you achieve, 10% ( the so-called nominal rate) then you improve the value of your return by 4%. This is called the real rate of return (Nominal rate – inflation rate = real rate). So when investing in the future you need to keep your returns real. You then are effectively improving the value of your money.

Paying off debt beats inflation
So the way forward is to invest in inflation-beating assets. This is going to be difficult in the foreseeable future as the global economy is slowing and returns on investments will probably weaken even further before they improve. Perhaps your savings strategy should focus on reducing debt in the meantime. There is certainly a better return found in knocking off a high-interest rate which is way above the current rate of inflation.

When you have finally succumbed to the fact that you are over your head in debt and cannot cope any further. Here is a way forward which will help to soften the blow.

Step one – Open the envelope                                                                                     No use deferring the inevitable. Debt costs more in the long run. You need to honestly assess the extent of your indebtedness. If your debt repayments exceed your affordability even after squeezing as much as possible from your current expenses then you are probably over-indebted. You shouldn’t be spending more than 30% of your monthly income on debt. The average South African household is averaging 76%.

If you cannot repay the cost of the debt you should find help quickly. The problem won’t go away by itself. You need to take charge and get something going.
Sell off property and valuables. Covert what you can into cash and pay off as much of the debt as possible.

Step two – Face your creditors                                                                             Contact your creditors and bring your situation to their attention. The lender would probably be better off compromising by extending the debt over a longer period and reducing the repayments. In some instances, arrangements can be made to service the interest only for a period. Whatever you do not apply for more credit!

Step three –  If you still cannot manage then it’s time to contact a debt counsellor. They are regulated and comply with the regulations of the National Credit Act.

The application process

Here is an outline of the process provided by a Debt Counsellor.

Step 1                                                                                                                              You Complete an application form and provide details of all your Credit Providers.(Consultations are usually done telephonically and by e-mail, but can also be done in person.)

Step 2
They determine whether you are over-indebted, in other words, do your monthly expenses exceed your monthly income? (You have to be over-indebted to qualify for Debt Review.)

Step 3
If you are over-indebted, they inform all your Credit Providers and the Credit Bureaus that you are under Debt Review. Your Credit Providers will also be requested to provide us with a Certificate of Balance (COB) in respect of your accounts.

(You will immediately start to pay a single provisional reduced monthly instalment in respect of all your Credit Providers which will be affordable to you. During the first 60 working days, legal action may not be taken against you in respect of the debts that are under review.)
Step 4
After receiving all the COBs, they will restructure your payment plan and negotiate with your Credit Providers where necessary. After negotiations with your Credit Providers, your new restructured payment plan will be sent to all your Credit Providers and this payment plan will take effect.

(Your restructured payment plan will reduce your monthly debt repayments to an affordable amount, leaving you with sufficient money for your living expenses.)
Step 5
They will instruct their specialist attorneys to apply in court in order to make your restructured payment plan a court order. You will not have to appear in court yourself, as your Debt Counsellor will be the applicant in the matter.

(The process will now be completed and you must ensure that your monthly payments are made timeously in order to prevent Credit Providers from taking action against you.)

Unsecured lending seems to be a quick and easy way out of a financial crisis but it’s probably a spade which digs a bigger hole for you. The old saying, “If you find yourself in a hole, the first thing you should do is stop digging”, is so applicable to debt.

My wife recently showed me an SMS she got on her phone offering her a personal loan without any credit referencing at an interest rate of 4,1%. This must be so enticing to someone who is desperate for cash. It offers a quick fix yet is one of the most expensive costs of lending around.

Interest rates are on the rise
The recent rate hike of another 25 basis points brings the repo rate ( the rate that is charged to the banks by the reserve bank) to 7% and the prime lending rate (the rate at which the bank lends money to us) to 10,5%. This simply means that the cost of debt is rising further digging your hole even deeper.

The cost of debt is more than you think
Now if you get offered a loan at 4,1% then there must be something more to it as it sounds too good to be true given the new rate of 10.5%.

Visiting one of many sites offering unsecured lending for blacklisted applicants I found a calculator which works out the interest over a period of 36 months. Taking an R10 000 loan over 24 months costs you R769 per month which means you pay R8 456 in interest. Over 36 months you pay R12 248 for an R10 000 loan! So you pay around 40% per annum.

Treat the cause
The main problem is that in most cases taking up this kind of loan treats the symptom and not the cause. Sooner or later you will have to deal with getting out of debt instead of further into it. At the outrageous cost of unsecured loans, your chances of getting rid of your debt make it so much more difficult.

The reality is that if you are borrowing to make ends meet you are living above your means. You will be better off finding ways to live under your means. Drastic times call for drastic measures. Even if it means scaling down on the house and or car. Borrowing at rates of 40% certainly won’t improve things.

South Africa is being reviewed this week by Moody’s rating agency which has a negative outlook on our economy. The probable downgrade to BAA3 will bring it in line with Standard and Poors and Fitch which have already downgraded us to their equivalent BBB-.

The next notch is categorised as “Non-investment grade speculative” otherwise known as “Junk” status.

Here are some links which explain the details:
http://www.tradingeconomics.com/south-africa/rating
https://en.wikipedia.org/wiki/Bond_credit_rating

What does this mean for South Africa?
Most of our national debt is raised through bonds. These debt instruments offer a fixed rate of interest for a defined period with a commitment to repaying the original capital at the end. South Africa needs to generate enough income through growth to pay its debt obligations. Servicing the cost of debt is one issue, however, the country needs to be economically sound to repay the original amount borrowed as well. The rating points to the risks of defaulting on this obligation as growth forecasts are weak placing a strain on being able to cover expenditures.

There are global investment companies which have rules that disallow them to invest in countries with a “Junk” status. So future borrowing will be even tougher for South Africa.

Following what happened to Brazil when it was downgraded to “Junk”, the cost of borrowing will increase, the currency will weaken and the Reserve Bank will continue raising interest rates.

What this means for South Africans

The probable weakening of the rand will lead to a rise in inflation as we will pay more for imports, which will lead to a rise in interest rates which will deplete our ability to save.

Research shows that it takes around 7.5 years for a country to recover from a junk status rating. This poses a gloomy outlook for us, especially as households are already on their knees struggling to make ends meet.

What can we do?
Avoid our own personal downgrade by getting tougher with ourselves. The cost of debt rises faster as interest rates hike. Forget the illusion of getting through tough times by borrowing. Instead, nail down your exposure to debt and focus on being able to afford your lifestyle. This way you will be able to cope far better if and when the storm arrives. You will also protect your creditworthiness keeping you in good standing should you need a loan in the future.

The budget proposals for 2016 are the most difficult to face in decades. South Africa is between the proverbial rock and a hard place. High unemployment and low growth. Our economy is in stagflation and this presents very little room to manoeuvre. Our Minister of Finance is an old hand at this as he presented a budget which didn’t appear to raise taxes but indirectly got the revenue.

Capital Gains Tax

This increases with an inclusion rate of 40% for individuals. This means that the next time you sell an asset you will pay a maximum rate of 16,4% of your gain.

Fuel Levy
Every time you fill up your tank you will pay an extra 30c per litre. So a 50-litre tank will cost an extra R15.

Tyre tax

Your new tyres will cost you an additional R2,30 per kilogram

Plastic bag levy

Every time you shop those bags will now cost you 33% more as the levy is upped from 6 to 8 cents a bag.

Incandescent globe tax
The next time you buy a globe you will pay an extra R2 for it.

Sugar-sweetened beverages tax
It is time to consider diet cool drinks as the tax on sugar drinks is about to be determined in the spirit of curbing obesity. This is effective from April 2017 so you still have time to kick the habit.

Alcohol and tobacco taxes
As usual, these are increased. Rates vary according to the product.

So it boils down to your own personal austerity.

• Use your own bags at the supermarket.
• Drive your car less.
• Avoid potholes to save your tyres.
• Use candles instead of light bulbs.
• Wean yourself off sugar drinks.
• Smoke and drink less if you can in these times…

The global markets are in turmoil. Growth is slow, emerging markets face a currency crisis, and stock markets are trading at jittery levels. Is this the time to buy or sell? Mr Miyagi, the wise old man in the movie, “The Karate Kid”, started Daniel out on his training by making him spend hours on a windshield waxing on and waxing off. This turned out to be a harsh but worthwhile lesson in patience. Daniel eventually got the idea not to rush things. He could also see things more clearly from then onwards.

If you really want to invest a lump sum into the risky share market you should exercise extreme patience by spreading into your investment over a period of time. The strategy is known as “rand cost averaging”.

Avoid risking everything 

Many investments are unitised (Unit Trust). The price per unit is determined by the combined market value of the assets in the unit. Shares, bonds, property and cash are affected daily by their various trades so depending on how your unit trust is invested the price moves. In uncertain times when you do not know which direction your investment is heading you could reduce the risk of buying at the top by averaging your capital into the investment over time. If there is a sharp drop in the value of the asset then the next investment will compensate as you will be buying up the discount.

Averaging out also compensates 

The current turmoil in the global markets presents a high risk of losing capital in the short term. To reduce the risk you should spread your capital into your investment. Similarly, if you are already invested and of the view that markets are running too high then you should consider averaging out by selling off over a period of time.

Timing is perfect at the end and beginning of the tax year

There are capital gains issues on the disposal of the investment. However, if you get it right you could sell off until February 2016 which is the tax year-end. You then use your capital gains inclusion rate of R30 000. if you then sell off more after February you use the next year’s capital gains exemption.

Averaging in and out of your investments will reduce the risks of sharp price movements. The longer the time is taken to average the less the risk tends to be.

A huge windfall such as an inheritance or winning the lotto or power ball is a lot more difficult to handle than you might think.
Statistics point to over 70% of people who have won large lotteries having spent everything within seven years and some even filing for bankruptcy. How devastating it must be to be the most envied and the most careless person in the eyes of your friends and family all in one lifetime. Just because you didn’t manage your luck the way you should have and could have.

It must be an overwhelming shock to win a large amount of money. The Power Ball lottery in South Africa which has a chance of a zillion being won has created wins of R91 and R69 million.
Yes, if you win it and your life changes. So what should you do?

Treat yourself like you would for shock. 

Breathe deeply and slowly and take your time. When the win has been confirmed and is in the bank perhaps you should go away to a remote place and spend some time thinking long and hard about what has happened.
Take your time to think about how money can translate into financial independence. Enabling you to do the things you want to free the dependency of a payroll. Maslow in his hierarchy of needs called it ‘self-actualisation’. A place most people only dream of and now you have been catapulted into this rare and most marvellous space. The trick is to be able to stay there.

You need to think as wealthy people think.

The wealthy consciously grow their fortunes. They value their wealth realising it is their source to maintaining their elevated lifestyle.
So, your first consideration is how best you can invest your winnings to maintain your new lifestyle for the rest of your life.
Wealthy people have financial planners to help them make informed decisions. They don’t take advice from buddies over the bar counter or at the weekend braai.

Your financial planner will address key financial aspects such as:                   Paying off all your debts which in turn reduces the monthly amount you need to maintain your lifestyle. You will effectively be earning interest from here onwards rather than paying it to a bank.                                                                Investing in inflation beats assets over the short, medium and long term which will provide your monthly income for as long as possible and lump sum amounts for the future, such as education for the kids, holidays, cars etc.

Managing expectations. A good financial planner will help you to realistically evaluate the money you have and how it reasonably translates into your financial freedom. It might not be worth as much as you think when you take into account the number of years needed to provide an inflation-beating income. If you won the lotto at age 30 you will probably need to provide for the next 60 years. If you needed an income of say R20 000 for 50 years protected against inflation then you will need about R15 000 000 depending on certain assumptions.

Your financial planner will also address the issues of tax and risk in your investments and structures such as trust should your plan necessitate it.

Don’t give your family and friends a handout. Rather a hand up.

Once you are absolutely sure of that your provisions have been invested wisely for the future you can then take some of what’s left over and help your friends and family. Rather than handing them a lump sum consider settling their debts on condition that they re-invest the newfound disposable income into investments for themselves which in turn improve their wealth into the future.

Financial freedom needs responsibility

Your luck needs to be managed responsibly because it will probably never happen again. It is a once-in-a-lifetime opportunity to improve your lifestyle and maintain it for many years into the future. Financial freedom is only enjoyed by a few, so if you don’t hold onto the win with white knuckles it will slip through your fingers quicker than you think leaving you like most previous winners wishing that they had handled things differently.

Another rate hike of 50 basis points and the probability of more on the way call for us to become savvier with our money. We need to find ways to use money more efficiently and then divert the savings towards paying off debt sooner than later.

There are two debt instruments which can work in your favour if you take the time to really understand how they work and then use them together.

Access Bonds

Using your access bond to consolidate and warehouse your cash makes it a great piggy bank. A mortgage bond charges interest on the average daily balance throughout the month. The bank allocates a portion of the monthly instalment to interest and the remainder to the capital. The higher your average monthly balance in your bond the less interest is allocated and therefore more of the monthly repayment goes to paying off your capital. Effectively, you save interest at the rate of the loan which has now gone up by 0,5%.

Credit cards

Credit cards charge interest on the balance outstanding on the card at the billing date at the end of the month. If you pay up your card in full or as much as possible before the billing date then you save the interest (around 22%) for that billing cycle.

Use the two to your advantage

So why not leave as much cash in your access bond during the month and use your credit card wherever possible and then just before the billing date transfer as much cash as you can into your credit card? You would have then saved interest on your bond and then used free money from your credit card during the month. Credit cards also have an additional money-saving benefit as opposed to debit cards. They do not charge transaction fees so can be very efficient payment instruments throughout the month.

Discipline is required

Avoid the pitfalls of spending impulsively on a credit card. You need to be very disciplined to always have enough in your bond to cover your credit card balance. You should aim to spend less on the card over time leaving more in the bond on a monthly basis. This is a clear measurement that you are making progress with the management of your monthly income.

From the 1st of March 2016, the options for retirement have changed. The legislation comes into play which aims to standardise the various types of retirement funds which are available to us. Namely, provident, funds, pension funds and retirement annuities. The changes will make things a lot easier to understand and apply in the future as the current variations are complex.

The main changes point to provident funds which were not restricted, as the full lump sum could be taken at retirement. Retirement annuities were always treated like pension funds in that at retirement you could only take a third in cash and the remaining two-thirds had to be invested in a pension. Provident funds effectively become pension funds from the 1st of March. The new regulations bring all options into line levelling the playing field at retirement.

The advantages

Currently, there are varying deductions applied to provident, pension and retirement annuity funds.

The good news is that the overall deductibility of contributions to retirement funding increases to 27,5% to a maximum amount of R350 000 per annum. Any amounts over this capping can be rolled over into the next tax year and deducted.

Deductions are only allowed in the hands of the employee so you will need to clarify things with your employer to ensure that the correct tax is applied. Any contributions made by your employer will need to be neutralised by a fringe benefits tax on your payslip.

These changes are an ideal opportunity for you to sit down with your financial planner and revisit your retirement planning. There are benefits to be found in optimising your contributions towards your future funding taking full advantage of the new level of tax deductibility.

Debt is so easy to get into and so very difficult to get out of. Prevention is always better than cure but the reality is that we get enticed into debt over time and soon find ourselves in it way too deep. The cost of debt climbs quickly and robs us of the potential to create wealth.

Institutions make their money by lending money to you at a rate over time.
You can benefit by reversing the formula.
Interest + time = profit
You cannot reduce the interest rate but can reduce the time = less profit for the institution
Less interest for an institution means more savings for you
More savings for you compounded over time = more wealth for you

Here are 3 steps to getting ahead of your debt in 2016.
A debt trap can be likened to trying to fill up a bath with the tap on but leaving the plug out.

Step one
Put the plugin by making a conscious decision to get out of debt. The culprits need to be identified and cannot be allowed to increase anymore.
Credit cards, overdrafts, personal loans, store accounts, and outstanding taxes. All have to stop.

Step three

Keep a close eye on the water level. Divert the newfound savings back into paying off your debts. Targeting the highest interest-bearing ones first and then working through the next. Patiently keeping your living expenses well under control. A new year brings on a wave of price hikes. So your cost of living will be going to increase anyway. Expect 2016 to be really tough. The cost of debt will probably increase as interest rates are on the rise. Debt is the enemy so you need will have to squeeze those living expenses even more now than ever before.

Reducing debt saves you fortunes and only saving for yourself instead of paying the bank will put you on the road to financial freedom.