"Other than utility bills, I don't have much of a financial footprint. Should I borrow a small amount of funds to establish a good lending history? I can comfortably meet repayments and have no other debts."
- Question from Gaile in Southport, QLD
Top answer provided by:
Jacques Malan
Hello Gaile,
First of all, well done on avoiding debt so far. It is a good thing and I would encourage you to continue being prudent about using debt.
I ran your question past a few mortgage brokers I work with and they all came back with the same response.
The short answer is no, you don’t need to take on a token amount of debt to establish a credit history.
In Australia, you do not need a credit score to be granted a secured loan when purchasing assets such as a property or a car for example. Most lenders will base their decisions on the amount you want to borrow, the value of the asset being purchased, your income, expenses and sometimes your savings history.
For unsecured loans, such as a personal loan, some credit providers may consider your credit history though.
You may not be aware, but if you have a mobile phone contract that included the purchase of the device, you are using a credit service and already have a credit history.
You will of course eventually have to consider taking on debt. Most people need to borrow in order to buy a home or a car. So that’s ok as this will provide you with the opportunity to acquire an asset you may not be able to afford if you were to save for it.
About Mortgages
To secure a mortgage, you will need to put some of your own money in, i.e. a deposit. Generally, the minimum deposit is 5% of the purchase price, but it is much better to make at least a 20% deposit. This is because deposits smaller than 20% mean that you will be required to take out Lenders Mortgage Insurance (LMI), which adds to the overall cost of the loan. Usually, the LMI premium is added to the loan, and you end up paying interest on it for the duration of the loan.
Another reason to have a bigger deposit is that it reduces the risk to the bank and therefore makes it easier to be granted the loan. It reduces your repayments and gives you more equity in your home.
There are many ways to save for a deposit, including using your super if you have not owned property in Australia before. There are certain steps to take if you plan to use the Super First Home Saver Scheme, so I would encourage you to get advice.
About Car Finance
It is possible to finance a car without a deposit. There are a few different options available when it comes to financing a car, including:
-an unsecured personal loan,
-a secured loan (using the car as security) and
-leasing
When you use a secured or unsecured loan, you are buying the car from the outset.
If you use a lease, it is more like a long-term “rental” agreement for a fixed term. At the end of the term, you have the option to renew/extend the lease agreement, purchase the car at its residual value or trade it in for a new car and set up a new lease agreement.
Leasing a car can also be structured as a salary packaging arrangement, which may have some benefits.
There are pros and cons to both buying or leasing, so again, it’s a good idea to do your homework and get advice.
One last thing I’d like to say is that debt in itself isn’t always a bad thing. It can’t always be avoided and in certain circumstances, if used correctly debt can play a role in wealth creation. But there is no question that debt increases risk and should be used carefully. Consider how much your emotion is influencing the decision to use the debt. Try to look at the decision as objectively and rationally as possible. Get advice, but be mindful of who you get advice from and what their potential interest in setting up the debt is.
I hope this gives you some useful information and I wish you all the best with your financial future.
Kind regards,
Jacques
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