It pays to save

The other day, I met Lucia, an interior designer, for a tea in town. After we exchanged a few pleasantries, she came to the point:

‘I need a 10’000 EUR loan for personal reasons in six to twelve months. Do you have an advice?’

‘Have you any other debt and how much can you afford to pay for the rata lunara?’ I wondered.

‘No, no, there is no other debt’ she said quickly, then paused a few seconds and finally replied, that she could pay ‘about 150, maximum 200 EUR’ per month.

In general, if you earn your money in RON, then you’d better sign a multi-year-credit-contract in this currency too, even if the dobanda is higher than in EUR. The exchange rate is unpredictable and the risk to pay much more in the end, than you initially calculated, is considerable.

10’000 EUR – so we are talking about 45’000 RON. If Lucia would get an offer with an annual interest rate of 9% over a period of 10 years, her rata lunar would amount to 570 RON, currently about 125 EUR and well within her budget.

‘Foarte bine’, she smiled and glanced the menu for dulciuri.

‘Not so fast’, I replied and advised her to consider an alternative.

‘Check this out’. I showed her my mobile-calculator with the total costs of her loan, if she would sign a contract with the above discussed parameters: 68’400 RON.

‘Do you have a better solution?’ she asked.

‘Much better’.

Since she wouldn’t need the loan immediately, I proposed her to save over each of the next 12 months the 200 EUR she indicated as her maximum-affordable rata.

This would be a sum of nearly 11’000 RON.

Thereby, she’d only need to apply for a loan of 34’000 RON a year from now. With the same dobanda of 9% and a duration of 9 instead of 10 years (deduction of the saving-period), the monthly payment would amount to 460 RON.

‘But that’s only a little over 100 RON less compared to the rata lunar of the first option. And for that I should save a year to the max?’

Obviously, my proposal wasn’t that appealing.

As so many people who apply for a loan, Lucia was too focused on the monthly payment figure and thereby ignoring the big picture.

With the first option, her total costs would be – as you know: 68’400 RON. But if she would choose the ‘first-save-for-a-year’-option, these costs would come down to 49’700 RON.

Her loan would be almost 19’000 RON cheaper.

When you deduct the 11’000 RON savings, the total costs of Lucia’s loan would still be nearly 8’000 RON lower due to the smaller initial amount and the slightly shorter duration of the credit-contract.

It pays to save.