Albert Einstein described compounding as the eighth wonder of the world and if you need any more reasons to get rid of your debt, this segment should convince you. We are going to go into compounding in much more detail in Module 5, but you need to know what it is (don’t laugh, I didn’t really know for years) and how it impacts debt.

Compounding is paying interest on an outstanding amount, and then paying interest on that interest, and then paying even more interest on the whole lot of interest, and so on.

Imagine you buy a computer on a credit card or using store finance. It cost £2000 (or $2000) and the terms are 17.8% for argument’s sake with minimum repayments of 3% of the outstanding balance.

At that rate it will take you (wait for it) 13 years and 9 months to pay the total price tag of £3759 (or $3759).

Do you really want to pay over one and a half times the amount and still be paying for it in 13 years time? I don’t want to be still paying for my hi–fi I bought when I was 17, but I bet I still am.

Enough already! I bet at this stage you are saying one of the following:

“But I needed that computer for my work”

“But the interest rates are not that high”

“I would never be that daft”

“So what are you supposed to do instead?”

Find a way. Otherwise, when you want to upgrade your computer in four years time, you will still have 10 years left to pay on the old one. Then you slip into the ‘can I afford the monthly repayment’ mentality. You lose sight of the whole amount of the debt and just focus on the monthly repayment. You don’t have a plan, you just cope from month to month and never raise your head over the parapet to be able to see the bigger picture.

That’s what debt does to you, puts blinkers on.

ACTION STEP

The best way to make this personal is to do two things. Look at your credit card statement and see what you paid off it last month. Add up how much of that payment was interest, card protection, charges, etc. and see how much actually came off your balance. Even 0% cards find ways to relieve you of some of your repayment.

Then take one of your credit cards or loans and call and ask them ‘if I only pay the minimum payment, how long will it take me to pay it off?’

This extract was taken from the “Debt-Busting Chapter” of
Nicola’s book “The Money Gym : Wealth Building Workout”