Tuesday February 11 2014

When salary earners compete with loans

By James ABOLA

Twenty years ago, the only people who could get a loan in Uganda were business owners with good collateral security. Nowadays the easiest and fastest way to get a loan is to present your pay slip to a bank.

During January 2014, I travelled through different cities and towns to meet prospective clients in preparation for our financial literacy training schedules for their organisations. Many of the Chief Executive Officers and Human Resource Managers that I met kept highlighting one common financial challenge that was afflicted their staff; over indebtedess.

It turns out that many salary earners cannot differentiate between a salary and a salary loan. Some of the staff conveniently drop the word loan so that the phrase changes from “salary loan” to simply “salary.”

In one country that I visited a local commercial bank has a very popular loan product that it offers to salary earners. The product is called “the fifteenth” and as the name suggests, it gives salary earners the chance to borrow against their salary once they hit the middle of the month. Am told that the bank can hardly keep up with the level of demand for this loan product.

Most organisations try to limit the proportion of loan repayment that can be deducted from a salary of their employee. The average limit seems to be 40 percent of the net salary after statutory deductions. The limit however works in the case of formal lenders with whom the employer has contact. If an employee dedices to borrow from a money lender then the limit becomes meaningless.

Even for the case of formal lenders, some employees try to find a way around, using a process known as “competing with the loan.” One day I overheard two men discuss the trick they use to outcompete loan deduction from the bank while we all stood in an ATM queue. According to the men, when borrowing, they signed up for the bank to deduct their loan repayment 2 to 3 days after salary day. As soon as they learn that the salary has been credited to their account the men would rush to the bank and withdraw everything before the loan payment is deducted. By the time the bank attempts to effect the transfer it finds there is no money or very little money on the account.

If you fall into a deep pit and rescuers send down a rope to lift you out of the deep; it takes a very high level of foolishness for you to put the rope round your neck and then shout to the people above to pull you out.

What then can we say about a person who repeatedly depends on a loan to pay for personal or household expenses? Using borrowed money to pay for expenses drives up your cost of living. Let us say school fees is Shs 1 million; and because you do not have the money in your savings you borrow from a money lender at the rate of 20 percent per month. If you pay back all the loan within a month your actual expense will be Shs 1,200,000. The more you borrow for consumption the poorer you become even though in the short run you might appear to be rich because of spending like a rich person.

If you must borrow at all, then borrow to invest. A loan can only be helpful if you use the money to invest and also if that investment makes a profit. Borrowing to pay fees or pay rent or spend on valentine’s day is not something that will generate profit, at least not financial profit.

Mr James Abola is the Team Leader of Akamai Global, a business and finance consulting firm. Email: james.abola@akamaiglobal.co.uk