Debt with the times: how to borrow in a pandemic

The three things we’re most likely to be worried about the moment are our health (both physical and mental), our loved ones and, of course, money.

Around one in three of us needs an overdraft from our bank at some point – and that’s in ordinary times. That number is likely to skyrocket as the COVID-19 lockdown causes incomes to fall and puts many future jobs on the line. It’s estimated that 20% of homeowners have already requested a mortgage holiday, where repayments are deferred for three months, while millions of us are likely to request a temporary break from our credit cards, loans and car finance schemes too.

Knowing where we stand with our lenders now becomes all-important. And while many people will need a break from their debt, it’s worth highlighting the cost of asking for that reprieve too.

Here we take you through everything you need to know about borrowing smartly in a pandemic – but first, let’s explain what’s happened since lockdown was announced.

Banking on the banks

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Step this way! An old-fashioned bank manager’s office at Beamish, County Durham

Both the government and the financial regulator (the Financial Conduct Authority) were quick to lean on the banks when lockdown began. After all, it was the taxpayer who had to bail out major high street names like Royal Bank of Scotland and Lloyds in 2009: now it was time for them to offer us a lifeline.

They even told banks to halt the dividends they pay their shareholders and recycle the money into useful lending. Okay, so many of us are shareholders through our workplace pensions, which are invested in such companies and rely on their dividends. But that’s a small price to pay in the long run to receive more help now.

And that help is taking many forms. Banks have been told to offer £500 as an interest-free overdraft to anyone who needs it. That ability to borrow extra at no cost could come in handy.

It’s all so different from what was originally planned to happen at the start of April. Previously, the regulator had told banks to change their complicated overdraft charging policies by the new tax year. They wanted to see an end to un-arranged and arranged overdrafts, with all borrowers paying roughly the same at a clearly set interest rate rather than a variety of daily or monthly fees.

Such changes would have benefited those with expensive un-arranged overdrafts, with the typical interest rate halved from almost 40% to around 20%. But it would have typically doubled borrowing costs for anyone with an arranged overdraft, with most banks settling on a typical interest rate of 39.9%.

Banks were told to make sure nobody was worse off as a result of the changes. Some lenders have gone ahead with the new charging regime, but others have cut interest rates, with all obliged to offer the £500 fee-free buffer to anyone who asks for it.

Banks should also grant a mortgage payment holiday, as well as a break on credit card and loan repayments, if you make the request and the bank doesn’t think you’ll be worse off as a result. None of this will affect your credit score.

Your bank may also reduce your short-term borrowing costs, raise your credit card borrowing limit or scrap late payment fees. Plus, cards can’t be suspended during this time.

All these measures will last three months but could be extended if the lockdown continues. The question is: should you take them up?

A short-term reprieve…

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A bank teller at Barclays Bank, Beamish

The annoying answer is: it depends. If you need some extra cash to tide you over, it’s better to ask for the £500 free overdraft (if it isn’t automatically added to your account) than to pay unnecessary interest. A combination of that, plus dipping into your savings, could allow to stay afloat at no extra cost for the time being.

But there are some important caveats. Firstly, speak to your bank and be honest about your financial situation. This creates the best chance of getting a fair and affordable deal, both now and in the long-term.

Your bank is not legally bound to do anything. But if you were to become seriously worried about your overdraft, your bank should also offer you options such as converting the repayments into a loan or even freezing interest. In any event, ask nicely and try to be patient if the process takes longer than expected.

Secondly, only borrow what you need and make it last through careful budgeting. After all, one of the few upsides of lockdown is that there are fewer opportunities to spend money (if you can resist online shopping!)

…vs the long-term costs

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Well at least its not 1913, with interest rates that high!

Payment holidays are more complicated. These are not the same as a free temporary overdraft. Interest rates will not be waived, merely added to future repayments. Ultimately, you will still have to pay back the money: your lender will either increase the term of your debt or raise repayments.

That’s why you should think very carefully before asking for a payment holiday. Only do it if you are genuinely unable to make repayments in the short-term. Otherwise, you are storing up bigger costs for the future.

If your earnings have remained stable, why not take the chance to get your debts in order and improve your borrowing prospects? Firstly, check in with your credit score. You should be able to do this at no cost, or at least take advantage of free 30-day trials with the main credit reference agencies. Are there any errors that need to be corrected? Could you close some dormant credit accounts that are dragging down your score?

You could redirect your usual weekend spending into bigger repayments on your credit card or loan. Or for a small fee, you could transfer to a 0% balance transfer card with extended payback time. Big banks are still offering free credit in that way for up to 29 months, while you can get up to 27 months on cards allowing no-interest purchases.

A rat in the bank vault! Let’s hope banks don’t allow that today…(p.s. it’s not real, don’t worry)

These strategies aren’t without risk. You must be confident of repaying whatever bill has been run up when the ‘free’ period ends. If that sounds too big a challenge, there are also ‘low purchase rate’ cards with an interest rate around 10% (half the standard rate) which operate in the same way as regular cards.

Whatever you do, do NOT cancel repayments on mortgages, credit cards or loans. Doing this will harm your credit score and make it harder for you in the long run.

If you need more specialised help with your debt, don’t be afraid or too ashamed to seek help. You can speak to Citizens Advice, StepChange and National Debtline, to name just three excellent charities.

They may be able to negotiate with lenders on your behalf if communications have broken down or come up with a free debt management plan (DMP). Remember: you shouldn’t have to pay for debt advice.

Difficult and unwanted as this crisis is, it may be the wake-up call many of us need. Ask for help with you debt if you need it, firstly from your bank and secondly from outside organisations like credit unions if necessary. Only borrow what you need and have a plan for paying it back. Otherwise, those with unaffected earnings should take this time to whittle down what their debt and polish up their credit score. And you never know – you might even come out of lockdown in better financial shape.

Photos taken at Beamish Museum in March 2019 by the author – make sure to put this amazing outdoor heritage site on your post Covid-19 bucket list.

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