Real Estate Investor Magazine South Africa July 2013

UPFRONT Many of us believe that slavery has been eradicated hundreds of years ago, but the truth is quite startling. An estimated 27 million people today are enslaved and the majority are “bonded labourers” in South Asia, whose labour – and that of their children and grandchildren - is “owned” as collateral for debts, which they will never be able to pay off. There are no “ bonded labourers” as such in South Africa, but there is no doubt that millions of South Africans are completely enslaved by debt. Just ask those who have ga rnishee orders aga inst their sa la ries, forcing their employers to pay their creditors f irst and directly, before they receive their salaries, often leaving them little to survive the rest of the month. Just ask the average South African whose debt-to-income ratio stands at 75.8% - leaving just R24 out of each R100 they earn to live on. Just ask those who have effectively become “bonded labourers”, working only to pay off their debt, and forced to make ever-more debt just to survive month to month. But how do people become so enslaved to debt? And what can we do about it? The path to slavery... It isn’t debt as such that enslaves people. In the current global financial system, it is difficult to get ahead without access to debt financing: most people will not be able to buy a car or fund university studies, much less acquire a property, without debt. Low-interest, longer-term debt that allows you to acquire assets, such as property or qualificati ons, which will grow in value over time or increase your earning capacity (such as a home loan or a student loan) can help you achieve financial freedom, if it is used intelligently and responsibly. So what enslaves people is not debt as such. Rather, it is the high compounding interest payable on particularly short-term debt; the reckless and irresponsible lending practices of credit providers; and the unethical and immoral debt collection processes that turn honest, hard-working people into “bonded” labourers. The shackles of compounding interest The interest charged on debt is a good indication of how short a path it is to financial slavery. www.reimag.co.za “Bad” debt - which includes, for example, clothing or furniture store accounts, credit cards and personal loans – traps people into a debt spiral from which it seems impossible to escape, because of the high interest rates charged –up to 25% per annum on credit cards. It also includes the high interest rate unsecured loans, particularly those offered by the microlending industry at exorbitant interest rates of around 30% over a period of six months. In addition, this kind of “bad” debt is mostly used for expendable items that are consumed instantly or quickly and do not grow in value, such as meals and entertainment, cars, clothing, jewellery and gadgets. But even lower interest debt can shackle people to seemingly never-ending interest payments. For example, on a R1 million bond paid over 20 years at 8.5% interest, you will pay R1 082 775 in interest. In effect, that means that a R1 million property will cost you double - R2 082 775 - by the end of the 20-year term. And that is at a historically low 8.5% interest rate. Just imagine how fast a 25% interest rate can hurtle you towards financial slavery. There are legal and moral issues that must be considered in respect of the interest payable on loans created through the fractional reserve system, which allows financial institutions to “create” the money loaned through electronic bookkeeping entries. Because the banks do not “lend” something they had prior title, ownership and rights to, it is questionable whether a “loan” agreement legally exists. And this raises a moral and legal issue around the charging of interest. Why is interest charged when the bank does not loan its own money to the borrower? How can the bank charge interest on a “loan” that is not legally valid? Unethical lending practices Given the incredible power of compounding interest to enslave people f inancially, it is no surprise that the Libor scandal caused such an outcry. The banks were exposed for manipulating the Libor and Euribor interbank interest rates - providing false figures on key interest rates upon which mortgages and loans are provided - affecting millions of people and companies across the globe. But don’t believe for a moment that the Libor scandal was just a global financial conspiracy. In 20 09, Trevor Manual, then Finance Minister, commissioned an investigation into the considerable gap between the repo rate as determined by the Reserve Bank and the prime lending rate which local banks charge consumers. Of course, nothing came of it, but that does not mean the issue is not a matter of national importance, given the country’s massive consumer debt. And the banks certainly did not moderate their behaviour subsequently. Late last year, estate agents criticised banks for providing home loans at prime plus 6% on homes priced between R400 000 and R750 000. At a Western Cape Franchisees Conference, Rawson Property Group chairman, Bill Rawson and Mike van Alphen (a former Absa regional manager), used such phrases as ‘totally unjustifiable’ and ‘out of all proportion’ to describe the situation. “Never before in the history of South Africa have banks worked on such flagrantly exaggerated mark-ups. A 6% over prime interest rate equates to a 70% mark-up,” noted Rawson. But this is just one example of the reckless lending practices that abound. Even debt at lower interest rates provided recklessly will - just like “bad” debt – create a shortcut to financial hardship. This became patently clear during the property boom years, just before the National Credit Act (NCA) came into effect, when the banks were freely handing out 118% home loans. And when property prices stopped growing rapidly and interest rates soared, thousands of people found themselves in severe financial trouble. The implementation of the NCA brought hope that credit consumers in South Africa would receive some protection from such unscrupulous lending practices. But the financial institutions merely responded by taking their reckless lending to even greater heights. This is clearly evident in the alarming growth in unsecured lending. Unsecured lending refers to loans that are not secured by collateral, allowing the banks to charge high interest rates, which traps people into a spiral of debt. “The National Credit Regulator (NCR), realising that the easy access to unsecured lending was getting out of control, issued a Code of Conduct on 1 May 2013, requesting its members to improve their affordability analysis when considering a loan application,” July 2013 SA Real Estate Investor 13

Real Estate Investor Magazine South Africa July 2013 | Page 15