Many people use the words credit and debt interchangeably, as though their meanings are the same. DebtBusters explains the terms to clear the confusion.
What is credit?
There are so many ways to define credit. It could be the amount that is available for you to borrow or it could be your ability to borrow. Creditors use your credit score to determine your creditworthiness.
If your credit score is low, they will avail no or little credit to you and raise your interest rates. If it is high, you will have more credit available and your interest rates will be lower. Credit helps you pay for your purchases when you don’t have enough cash or assets to do so.
What is debt?
Debt is the result of having taken out credit. It is the amount of money you have borrowed. It is always paid back with interest and other fees such as initiation fees, monthly fees, or administration fees. For instance, your personal loan, home loan, vehicle loan, and business loans are all money that you owe.
But the situation is different with credit facilities such as credit cards, store cards, and overdrafts. With these, you will always have credit available for you to borrow whenever you want. But when you start using that credit, you have incurred debt that you will need to pay on the terms that you agreed on with the credit provider.
Should you take advantage of high credit limits?
Sometimes credit providers increase your credit limits (that is the amount that you can access on your credit card, overdraft, or for personal loans) when they see that you are a good debtor. Good debtors are those consumers who pay their debt on time and pay what is due. It is also those whose debt-to-income ratio is lower.
Many people get excited when they see this increase because, after all, it feels good to know that you always have access to cash so that you can use it whenever you need to.
Even though this may look good, it could cause you to become overindebted if you’re not responsible. It will damage your credit rating in the long run, and it will make it hard for you to obtain credit in future, or you will pay higher interest rates.
Creditors will also see you as high risk if your credit limit is too high. If you apply for a personal loan while you have a credit limit that is way higher than your income, creditors may think that you will max out your credit limit and be unable to pay your debt.
On the other hand, having a high credit limit can also boost your credit score. If your credit limit is on par with your income and you are not utilising it, or you pay back whatever you use, creditors will see you as a responsible debtor. They will grant you loans at a lower interest rate and you might even be offered more credit cards.
Using your credit wisely will help you avoid unnecessary debt and over-indebtedness. Speak to your financial adviser about how to manage your credit.
DebtBusters can help you if you’re struggling to pay off your debt. Speak to a consultant at [email protected]. Alternatively, you can call us on 086 999 0606.