From credit cards and personal loans, to no-interest and low-interest loans for lower income earners, different types of credit suit different circumstances. We compare some common credit options, and highlight some quick fixes that aren't always all that they're cracked up to be.
Credit in a nutshell
What is credit?
Credit is borrowed money that allows you to buy goods and services now,
but pay for them later.
Why use it?
Sometimes we use credit purely for convenience (for example, when we
have no cash on hand, or when there are no other payment options
available), but it can be especially beneficial in cases where we can't
afford to pay for something on the spot, but can afford to pay it off over
time (eg a computer or a car).
In this article:
Credit – a quick tutorial
Comparing common types of credit;
So-called 'quick fixes' that can cause long-term headaches;
Loans for lower income earners;
Your rights and responsibilities and the Consumer Credit Code.
Is there a cost?
All credit comes at a price, with the organisation lending you the money typically charging interest, and sometimes other fees, to borrow the money. Various types of credit may also have potential pitfalls. These are highlighted in the table below, which compares some commonly available forms of credit, and the potential pitfalls (and benefits) often associated with them.
Common types of credit – comparing the pros and cons
While the following table provides you with some general information, it's just a starting point. If choosing a credit product for your own needs, you'll need to shop around and make your own notes on the various products on offer before deciding which option suits you best.
Common uses
Potential benefits
Potential pitfalls
Credit cards from financial institutions
Purchasing everyday items that can be paid off at the end of the statement period
Purchasing items on-line or over the phone
When travelling overseas or when other payment methods are not accepted
Covering emergency expenses
24-hour access to money
World-wide acceptance
Access to interest-free credit depending on the type of card and how the card is managed
Make it possible to purchase over the phone or on-line
Sometimes offer insurance on purchases
Depending on the type of card and how the card is managed, interest rates can be relatively high
Easy to overspend if not managed carefully
Debts can take years to repay if you only ever make minimum repayments
Cash advances on credit cards are an expensive way to obtain cash (additional fees and interest can apply)
Store cards from major retailers
Purchases in specific stores (or different stores owned by a single retailer)
May give you access to discounts or in-store rewards programs
Interest rates may be higher than for other credit cards
Easy to overspend if not managed carefully
Debts can take years to repay if you only ever make minimum repayments
Generally can't be used anywhere other than the issuing retailer
Overdraft on a bank account
Cover short-term emergency outlays
Short-term cover when there's not enough in your account
A pre-agreed overdraft facility on your account can act as a short-term buffer if you need to spend more than your current account balance allows
Will generally incur interest and fees and charges on the overdraft
Beware: if you do not have a pre-agreed overdraft arrangement with your bank the overdrawn account will be considered to be in arrears, and overdrawn account fees may be charged for every day it remains that way
Personal loans from mainstream financial institutions
One-off purchases that are too expensive to pay for up front, and therefore require a longer repayment period
Allows you to buy larger items that you can't afford to pay off immediately
Interest rates are generally cheaper than other forms of credit such as credit cards
May be able to choose between a fixed or variable repayment option
Can't be used for everyday purchases
Quick fixes or long-term headaches?
The credit options covered above are not necessarily available to everyone. Unfortunately, people on lower incomes or those with a blemished credit record are sometimes pushed away from mainstream credit options and into alternative forms of credit. However, while some of these alternative credit options are often heralded as 'quick fixes' to a cash flow problem, they warrant much closer inspection before making a commitment.
Payday loans
Payday loans are usually advertised as loans that provide you with cash to tide you over from one payday to the next. They can be appealing to people who may be unable to get money through mainstream credit providers. The interest rates that payday lenders can charge vary substantially from state to state, as they are governed by individual State and Territory laws. Some states might limit the interest rates charged on payday loans (but even in these cases, rates can still be as high as 48% per year). In others, you could find yourself paying phenomenal rates of interest – sometimes as high as 1000% per year - on the money you borrow. That's not a quick fix in anyone's language. Fees and charges can apply on top of that.
Interest-free periods
It's not unusual to find retailers and other organisations offering 'one year interest-free' (or similar) deals when you purchase goods using credit arranged by the store. This might seem like a great way to save interest, but you need to be careful. In some cases, a substantially higher rate of interest kicks in as soon as that 'honeymoon period' is over (so you might end up paying more interest overall than if you had used an alternative credit arrangement that charged a lower rate of interest from the very start).
Consolidation loans
As their name suggests, consolidation loans can help you to roll a number of loans into a single loan. When using these products, your aim should be to reduce the amount of interest you pay overall, and to reduce the amount you pay in fees and charges overall (and also to make it easier to manage your debt). However, you need to watch out for unscrupulous dealers who might sound like they've got the solution you need but actually charge you more in interest, as well as fees and charges, than you're already paying. The key, as always, is to read the fine print, make sure you understand it, and compare the overall costs of your existing arrangement with any potential new arrangement before you sign.
Finance broker loans
Finance brokers negotiate loans with credit providers on behalf of their customers. This might appeal if you feel unable to investigate options yourself – for example if you don't understand the financial system or don't speak English. However, some brokers charge substantial fees for their services, and some may be inclined to recommend products that they'll earn a higher commission from. If possible, it's generally cheaper to do your own homework. If language is a problem, ask credit providers if they have interpreter services or translated materials.
Loans for lower income earners
PA wide range of lenders, including community organisations, government-lenders and some mainstream financial institutions, are now providing credit options for people earning lower incomes or those living on government pensions.
Low-interest loans
Some schemes offer personal loans of up to around $3000 specifically to people with Healthcare Cards or Pension Cards issued by Centrelink. Varying rates of interest apply, but on the whole they are comparable with other mainstream personal loan rates, or possibly less. The loans can be used to purchase various essential items (for example, washing machines, furniture, vocational education expenses, computers etc).
No-interest loan schemes
Many community groups around Australia (as well as some mainstream financial institutions) also offer no-interest loan schemes (NILS). As with low-interest loans, households on lower incomes can use the loans to purchase essential household items when they don't have the cash to do so and can't obtain affordable credit. The loans, typically up to $1000, generally need to be repaid over a period of around 12 to 15 months, at which point the money is then re-lent to other people in the community.
To find out more about loans for lower income earners
An internet search will bring up a number of loan providers in your area who cater for lower income earners. Alternatively, you can:
contact your local council for details of free financial counselling services in your area. A financial counsellor will be able to outline any low-interest loan or NILS options available to you;
contact Centrelink's Financial Information Service on 13 2300 to inquire about low-interest loans and NILS;
contact the major financial institutions in your area and ask about the loans they have available for lower income earners.
Your rights and responsibilities
Whenever you use credit, you're effectively entering a credit contract – that's the formal agreement between you and the organisation lending you the money. Credit contracts are legally binding. Failure to meet the terms of the contract (for example, if you miss a repayment) may result in financial penalties, and with more serious cases, legal penalties.
The Consumer Credit Code
The Consumer Credit Code is an Australian law that protects the interests of consumers when it comes to personal credit contracts. It covers all major financial institutions and some other providers of credit (such as payday lenders and government bodies that offer credit), and applies to credit products such as personal loans, credit cards and store cards, overdrafts, housing loans, hire of goods and payday loans.
The Code stipulates the information a lender must give you before you sign a credit contract, and the sorts of information you should be given during the life of the loan.
The Code can also help to protect you if, due to special circumstances (such as job loss, illness or other reasonable causes), you can't meet the terms of your credit contract. If you qualify for a 'hardship variation' to your credit contract, you will still be required to pay back the loan, however you may be given longer to do so, or you may be able to postpone payments for a set period of time.
What the Code doesn't cover
The Consumer Credit Code doesn't apply to all forms of credit. For example, credit that's provided without prior arrangement (eg when you overdraw a bank account without having an approved overdraft facility from your bank), is not covered under the Code, nor is credit provided by pawnbrokers or trustees of deceased estates.
Find out more about the Code
For more information on the Code and exactly what it does and doesn't cover, visit the Consumer Credit Code website at www.creditcode.gov.au.
Remember, once you sign – you're responsible
Note that it's your responsibility to ensure that you've read and understood the information provided to you before you sign a credit agreement. Once you've signed the agreement, regardless of whether you've read the full terms and conditions and other information provided, the contract is legally binding and you are responsible for fulfilling your obligations under the contract.
For more information
Visit www.consumer.gov.au for more information on the Consumer Credit Code, what it covers, and your rights and responsibilities under the Code.
Visit www.fido.asic.gov.au for more information about credit, credit providers, the cost of credit, and tips and traps to be aware of.
Visit www.bankers.asn.au for a copy of the Australian Bankers' Association consumer booklet: Smarter Banking – Making Credit Work for You.
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