Turbo-charging your savings tip#2: Don’t just pay off debt. Pay it smartly

This is the kind of tip you can’t find through Google and you can’t read on MarketWatch and CNN.

Paying off debt is always a good idea, but you have to be smart in doing it. If you are caught between the devil (say, resorting to one meal a day) and paying off debt completely, there has to be a place somewhere in between that will allow you to breathe easier and yet escape a pauper’s life.

One way is to do credit substitution. That simply means retire your debt with the highest interest rate by borrowing with a lower interest rate.

A simple solution for getting out of debt is to get a salary loan from the Social Security System (SSS), Government Service Insurance System (GSIS) or from your company to pay off your high-interest bearing debt.

I am very surprised how many SSS members and GSIS members do not know their benefits. A salary loan from the SSS is supposed to help members with financial emergencies. The nominal interest rate is 10 percent per annum, the maximun amount loanable is P30,000.

Nominal interest rate on loans means the interest rate has not been adjusted for the full effect of compounding. Unfortunately, we have yet to know the frequency of compounding used by the SSS so I cannot give you the effective interest rate. However, I am pretty sure the effective interest rate will be higher than 10 percent but definitely much lower than the 42 percent credit card companies are charging.

For government employees, GSIS’ salary loans have an eight percent to 12 percent interest rates. Maximum loanable amount is up to eight months of basic salary.

Here’s another side benefit from tapping your SSS and GSIS benefits: some discover that their employers have failed to remit SSS contributions only after they applied for a loan. These cases have been increasing and they are shameless and dangerous. Spotting the problem early can save you some amount of money.

Another way would be to talk to your Human Resource Department to know if your company has any special benefits for employees burdened by financial emergencies. Take advantage of these benefits because they charge below-the-market rates.

Simpler and more effective, of course, would be to get an interest-free loan from your mother, father or siblings. But if you go this route, be responsible and pay some interest. And do honor your loan, please. It is just too tempting to ask mom to write it off.

Now, before you fill up that salary loan application form, know that having that P30,000 check in your hand will be very, very tempting. Do not use it for other purposes, or else you will end up with having to retire two loans instead of one.

What is the relationship between paying debt smartly and turbo-charging your savings? Interest on loans is one of the biggest holes in your savings net. It can eat up any returns you may be getting from savings and investments. For personal finance enthusiasts, interest on debt is the face of the enemy.

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