Financial Planning: To be, or not to be, in debt

This article first appeared in Personal Wealth, The Edge Malaysia Weekly, on March 30, 2020 - April 05, 2020.

Photo by Haris Hassan/The Edge

Photo by Abdul Ghani Ismail/The Edge

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Many Malaysians tend to splurge when it comes to milestones in life such as weddings and holidays. It is not unusual to hear of couples going into debt after spending five or six figures on their weddings, depending on the venue, number of guests and how elaborate the programme is. 

People are also spending more on travel, thanks to cheaper flights offered by low-cost airlines and more affordable packages provided by aggregator services, the Covid-19 outbreak notwithstanding. According to a report published on online statistics portal Statista on Aug 9 last year, the number of outbound travel trips made by households in Malaysia was projected to increase to 14.2 million by 2021 from an estimated 11.9 million in 2016. This comes amid a sluggish economy and a weak ringgit versus the US dollar. 

To fund these big-ticket items, many have chosen to take on credit, either by applying for personal loans or using their credit cards. However, in doing so, they risk getting into financial difficulty if they take too long to pay off the debt or are unable to pay altogether.

Some credit providers have used certain imagery in their promotional campaigns and advertisements, such as pictures of happy couples and adventurous travellers, to cater for this demand. In fact, a credit provider came under fire a few years ago for directly advertising its personal loans as an offer to help couples achieve their “dream wedding”.

Malaysians sometimes borrow money to look good for a short period of time, make wonderful memories and have a nice collection of photos and videos. But they should pay off this borrowed luxury even if it means working extra hard, says Kevin Neoh, a licensed financial planner at VKA Wealth Planners Sdn Bhd. 

“Of course, we have seen in the news people who have done this and regretted it later. We are no strangers to stories of how people had to use their credit cards to pay for their wedding or honeymoon,” he adds.

These promotional campaigns are a relatively recent phenomenon. Felix Neoh, director of financial planning at Finwealth Management Sdn Bhd, says that in the past, people had to practise delayed gratification due to the lack of easy access to credit. Today, this is no longer a problem and Malaysians are spoilt for choice when it comes to products such as credit cards, personal loans and easy payment schemes. With the YOLO (you only live once) mindset, more consumers are giving in to instant gratification instead of adopting the age-old practice of delayed gratification, he points out. 

Kevin says “stimulating” loan growth by encouraging people to borrow and enjoy instant gratification may not be good for both credit providers and borrowers over the long term. “Hence, I think it is important for borrowers to recognise that they have the responsibility to pay back the money they do not have today in the future, regardless of who or which party they borrowed it from.”

Nevertheless, he points out that easy access to credit is not a bad thing entirely. It is good that these facilities are made available to those who actually need financing, he says. But credit providers should bear the social responsibility of providing proper financial education to those who take up these loans. 

While it is not a common occurrence, a number of Malaysians have taken out loans to finance their weddings and travels, according to financial planners. This could be due to the fact that such events are not cheap, says Joyce Chuah, a licensed financial planner and CEO of Success Concepts Sdn Bhd. 

She points out that she once attended a wedding that cost the bride and groom RM300,000, or RM5,000 per table. “Logically speaking, I think only a few guests would have gifted the couple RM500. So, if couples cannot afford to finance these types of weddings, they should not do it. But if they really need to, they can delay the expensive celebrations until they can afford it. In the meantime, they could have a small get together after registering the marriage. This will not burn a hole in their pockets.”

Felix says he recently came across someone who borrowed money to finance a lavish wedding. After the wedding, came the honeymoon, followed closely by children. “It took this person almost 10 years to settle all the credit card bills that had snowballed over time. After years of covering one hole with another, the person enjoyed a short ‘debt-free’ period. But he is now back in credit card debt again. 

“So, what is really going on here? Is it possible to isolate the overspending to a one-off occasion or will the overinflated lifestyle become the new normal? If it is the latter, then it means a lifestyle of debt.” 

Becoming smart borrowers  

If one has to take out a personal loan, there are several things they should consider, says Chuah. For one, they should think about their ability to pay off the loan. This includes looking at the interest rate, the total cost of the loan, how many years it will take to pay off the debt and whether there are other alternatives. Borrowing from family and friends could be a viable option.

A financial planner who wishes to remain anonymous concurs, saying, “I know someone whose parents did not have the money to support her finances. So, she turned to an illegal money lender, who charged her 15% interest. A close friend of hers, who got to know about it, offered an informal agreement. As the friend had money in a fixed deposit account that was not giving much returns, she offered to lend the money to this person at 6%, which is a lot better than the illegal money lender’s rate. 

“Of course, this is just an informal, personal arrangement. Compliance-wise, you are not supposed to lend money without a proper licence.”

Felix says taking a loan for unnecessary wants should always be discouraged and avoided. However, should there be a need to do so, one must ensure that he has the means and discipline to pay off the debt within a reasonable period — say, three to six months — so that the expense does not derail the achievement of their longer-term goals. 

“What may seem like a small manageable expense today will snowball into a big opportunity cost in the future. An expense of RM5,000 today could actually cost you more than RM50,000 in 30 years [if compounded at 8% per annum]. That is the true value of this expense over time,” he says. 

Meanwhile, Kevin says he has been asked by one of his clients whether she should take a loan for travel purposes. His recommendations include preparing an estimate of the traveling costs and saving up until she can afford to pay for everything without applying for any type of credit. 

“If saving up takes too long and ends up taking away the thrill, I would ask them if they know how to speed up the process. Can they find ways to increase their income? Can they find ways to spend less while they are building the travel fund? These can help position their mindset to look at what is more important to their overall financial well-being, on top of helping them to practise delayed gratification,” he says. 

Paying off personal loans over a few years may not seem difficult, says Kevin. However, the situation may become very different if something unexpected happens, such as income reduction, retrenchment or a sudden illness. Malaysians who are not careful about turning unnecessary borrowing into a habit could find themselves being suffocated by their financial commitments, he adds. 

“While certain loan products may look attractive, the real cost of such loans may actually be much higher. First, the interest rate quoted is the nominal rate, so the effective interest rate could be much higher. Second, the opportunity cost in the future could be greater,” says Kevin.

“When we use our future income to pay for what we spent in the past, we ‘let go’ of opportunities in the future. This includes starting a business and making investments to prepare for other life goals that are even more non-negotiable than a wedding, such as starting a family, paying for your children’s education and funding your retirement.” 

He acknowledges that certain milestones such as weddings occur only once in a lifetime for many people. But he points out that we do not have to resort to personal loans. Instead, it can be accomplished by taking a more prudent approach when they are still young. “Just like planning how to propose to your future spouse, this can be and should be planned — together, if not earlier,” he says.

Felix says Malaysians should spend within their means. They should go for smaller-scale affairs and only upgrade when they can afford it. Instead of expensive destinations, they should travel locally or regionally to keep their travelling expenses low.

“Take advantage of credit card points used to purchase needs and convert them for holiday trips or hotel room bookings. Reframe your perspective and take stock of what is truly important to you. You would know that you are living within your means when you are able to pay for things with cash in hand or your savings, without the need to borrow and sacrifice your ability to save and invest,” he says.