Common Debt Terms Explained - Debt Terms Made Simple
What is an Annual Percentage Rate?
APR is the short version of Annual Percentage Rate. It is a common debt term used frequently by finance companies to explain how expensive the cost of borrowing from them will be. It is a way of measuring the cost of a loan over a year long period in order to make rates easier for consumers to compare. A lower Annual Percentage Rate is better because it means that you will have to pay less interest back to the bank, building society or other lender. In addition, if you use a credit card you may be charged different annual percentage rate for making a cash withdrawal than you would for purchasing an item or service with your credit card. Financial organisations must publish the Annual Percentage Rate of any loans or credit that they make available to you and you should also check any terms and conditions carefully to ensure that you are being charged the correct Annual Percentage Rate for your transaction. You can read a more detailed explanation of what an annual percentage rate is and how it effects what you borrow in our article entitled Save Money On Credit Card Costs.
What Is Bankruptcy?
Bankruptcy is another common debt term that is perhaps the most serious debt related problem faced by consumers. If you are bankrupt then you have more debts than you have assets to pay those debts meaning that the people who owe money to, your creditors, are unable to recover their money. Bankruptcy is a Court imposed Order which can be obtained through a County Court and which enables a state official, usually referred to as the “Official Receiver” to take control of your financial affairs and any property or money that you have remaining. Whilst is may seem strange, there is actually a charge for entering bankruptcy of a few hundred pounds, but this may be a preferable option to being chased continually for large sums of money that you have no means of paying. Once you a County Court grants you a Bankruptcy Order you are essentially discharged from your debts and the “Official Receiver” will deal with any creditors that you owe outstanding money. Bankruptcy will negatively affect your credit rating for a number of years and may mean that you are unable get the best deals from loan or credit card companies during that period. This means that any future borrowing you make will be more expensive in the long term. We have created a detailed guide to the bankruptcy process called How To File For Bankruptcy.
What is Compound Interest?
Compound interest is a common debt term that can be quite confusing. It can be both good and bad depending on the context in which is occurs. If you are a saver then compound interest is an excellent benefit as it is simply the interest that you receive on the amount of money you deposited (the capital amount), which is then added to that original capital amount. So if you deposited £1,000 in a 5% savings account for a period of one year you would receive £50 in interest. In the second year you would receive interest on £1,050 which would be £52.50, giving you a grand total of £1,102.50. This effect is called compound interest and perhaps the best way to think about it is like rolling a snowball which starts off small but gets bigger with each turn.
However compound interest also applied to borrowers and can be particularly nasty, as it means that what start off as quite small debts can spiral into larger ones very quickly. This is especially true because the interest rates that financial institutions charge borrowers for the privilege of lending them money, known as Annual Percentage Rates, are especially higher than those that they pay to savers. Most APR rates vary between 15% and 25%.
So if you borrow £1,000 on a credit card at an APR rate of 15% and make no payments during that year then essentially you could be paying back £1,150, that’s an extra £150! However because sneaky lenders also charge you interest on the interest this figure is usually considerably higher.
What Is A Credit Reference Agency?
There are many common misconceptions of what a credit reference agency does but essentially they are a central information point whom lenders and other financial organisations consult to enable them to make lending decisions. A Credit Reference Agency holds a library of information about your financial affairs related specifically to your electoral roll status, the number of credit checks that have recently be requested in relation to your account and details of your repayment history connected to any loans, mortgages, hire purchase and credit agreements that you may have taken out in the past. Lenders will then apply their own specific set of criteria to the information provided by a credit reference agency, to enable them to make a decision about whether or not to lend to you. That is why it is possible to walk into any high street Bank and get accepted for a loan at one institution, but turned down by another despite the fact that they have been provided with the same information by the credit reference agency. In effect the credit reference agency provides the information to lenders to help them make a responsible lending decision.
Hot Tip
Some financial institutions will be concerned by a sudden rush of credit requests appearing on your credit record within a short space of time, as it may indicate an underlying debt related problem. So if you are applying for credit, try and space out your requests where possible to improve your chances. You should also consider applying to see a copy of your credit report to ensure that there are no discrepancies on it or to protect you against identity fraud, where someone posing as you applies for credit in your name.
What Is Identity Fraud?
Identity fraud is a very personal type of crime that is committed when someone else steals your personal identity and uses it to engage in financial fraud. It is often committed as a result of criminals getting access to a combination of your personal identification details, such as your Date of Birth, Full Name, Address, National Insurance Number, Passport Number and other data. This has traditionally been obtained by trawling through confidential waste that is placed in your household rubbish, such as bank or credit card statements, but increasingly this is being accessed through online methods such as hacking into your personal computer and accessing bank or account details. Once criminals have the necessary information they can obtain credit in your name, leaving you to pick up the bill.
Identity Fraud can be a very distressing type of fraud because it can sometimes be difficult to prove that you were not responsible and because it is highly invasive of your own personal space and data.
Hot Tips For Preventing Identity Fraud
What Is A Direct Debit?
A direct debit a means of directing your bank to pay a regular sum, usually to cover a bill or repayment, directly from your bank account. In essence you give the organisation which receives the money the authority to take a specified sum on a specific date. Traditionally direct debits have been used by loan or mortgage companies to automate the process of collecting what are usually large amounts of money and to ensure that these are paid in a timely fashion, rather than individuals defaulting on payments due to forgetfulness. However direct debits are increasingly being used by organisations as a way of collecting smaller sums linked to gas and electricity bills, council tax, water, broadband, landline phone or mobile phone bill payments. Consumers often receive a tempting discount for paying by direct debit and it is more convenient for organisations.
Direct Debit Hot Tips
Organisations should always notify you in advance if the amount of money they intend to take via direct debit has changed from that of the agreed rate. The drawback of a direct debit is that essentially an organisation can take what they like providing that they notify you in advance which has come as a nasty surprise to many gas, electricity and water customers paying by direct debit. As an alternative method ask if you can pay by standing order, as this provides you with much more control and ensures that organisations can take additional money. Alternatively keep paying by cash, cheque or bank transfer as whilst you may not receive a monthly discount for paying by direct debit, you will at least retain full control over your bank account.
What Is A Debt Management Plan?
Another cmmon debt term that you will frequently hear if you are seeking financial debt help is a Debt Management Plan. A debt management plan is an informal agreement between you and those that you owe money to, (a creditor), which lays down how much you will repay and when. It is an excellent approach to dealing with debts without resorting to bankruptcy proceedings, although because it is an informal agreement any creditors are not legally bound to accept the terms of a debt management plan. Debt management plans can be created either by yourself or through a debt management or debt consolidation company who will charge you a fee. Before creating your debt management plan it is important that you first calculate the total value of your outstanding debts, including credit cards, hire purchase agreements, store cards, gas, electricity & water arrears & loans and work out current repayment levels.
Your debt management plan should always aim to address priority debts first, which are usually defined as those that are essential for you to continue to maintain a reasonable standard of living, such as utilities arrears. After this non priority debts should be addressed like credit card, HPI and loan agreements.
A debt management plan is a method of providing structure to your negotiations with creditors as well as a clear action plan for how you intend to resolve your debt difficulties.
Hot Tip
Create your debt management plan as soon as you become aware of debt difficulties in your personal finances, as this will make your repayments more manageable. Be realistic with your proposed repayment levels and do not over commit as defaulting on payments negotiated in a debt management plan is likely to lead to creditors quickly losing patience.
What Is A Hire Purchase Agreement?
A Hire Purchase Agreement is an alternative means of paying for high value items like furniture or a vehicle. It differs from a normal credit agreement in that you do not own the goods until the conditions of the hire purchase agreement have been fulfilled, which is normally that you have made a final payment. If you have recently purchased a new car or a sofa then it is likely that you did so through a hire purchase finance agreement.
A hire purchase agreement prevents you from selling the item without the permission of the creditor and it can be taken back from you if you fail to keep up the agreed repayments. If you fail to maintain repayments and your purchase is in a public place, for example a car parked on a public street, then the hire purchase company can seize it from you without the need for any Court Order. However, if you have paid at least 33% of the agreement then the hire purchase company would need to seek a Court Order to ask for permission to remove the item from your possession.
What Is Debt Counselling?
Debt Counselling is a common det term and is the process of getting advice from an expert about your debt problems. Debt Counselling should always be done by qualified debt specialists, so ensure that you ask any debt counsellors about their experience and background prior to using their service. Some debt counsellors may charge you a fee for their service, however organisations like the Citizens Advice Bureau will provide you will free debt counselling and advice if you get in contact with them. Debt Counselling can help you make sense of your debt circumstances, understand how to address your debt problems and even help you to create a debt management plan to tackle your debts. Debt counselling may help with managing short term debts or provide you with sound advice about how to deal with overbearing debts through Individual Voluntary Arrangements or even Bankruptcy.
Ways in which debt counselling can help you;
Creation of debt management plans to help you manage your debts. Re negotiate debt payments with those you owe money to. Advice and information on debt prevention. Advice about how to budget. How to prioritise debt payments. Advice and guidance on Individual Voluntary Arrangements (IVA’s). Advice and guidance on the bankruptcy process.
Useful Debt Counselling Links;
What Is Debt Consolidation?
Debt Consolidation is a common debt term used to explain the process of combining a number of more expensive individual debts into one larger debt but cheaper debt. This process is ideal for those who owe money to a range of organisations and are desperate to reduce their monthly payments. Debt Consolidation and debt management companies often organise these arrangements, although it is possible to do this yourself. A Debt Consolidation company will normally negotiate with those that you owe money to, on your behalf. Normally this will mean that they buy your debt from other companies leaving you to deal directly with them and make one simple monthly payment. The reason that they can reduce your monthly payments is because one larger debt with one financial organisation can often be obtained at a cheaper rate, than a series of smaller debts with multiple companies and you therefore get the benefit of cheaper repayments.
Most Debt Consolidation companies will charge you a fee for their service, which will vary depending upon the amount of debt you owe, however this sum can be added to your existing debt so that you do not have to find the money upfront. You should aim to look for non profit debt consolidation companies as these organisations will not charge you a fee for their services and essentially offer you their advice and expertise for free, earning money instead from the financial organisations they deal with.
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