Before you apply for that loan…

There is nothing wrong with debt, but only if that debt puts money in your pocket. Borrow to invest, not to consume. PHOTO | FILE

What you need to know:

  • There are a couple of questions you should ask yourself: “Do I need it?” “Is it part of my long-term plan?” If the answer is no, then resist the urge.
  • The reality is that if you make big purchases without a plan, you could end up spending your twenties, or even thirties, paying a loan you had no business taking in the first place.
  • For the employed, it tends to be slightly easier to get access to credit because your pay slip offers banks and other microfinance institutions the collateral they need; your salary. So what do they look for before they deposit the loan into your account?

“Debts are like children: the smaller they are the more noise they make.”

This humorous Spanish proverb perfectly reflects how many people feel about debt. Despite what people say though, there is nothing wrong with debt, as long as that debt “puts money in your pocket” says Robert Kiyosaki, American financial expert and bestselling author. 

Debt or credit, the cash that we borrow from lending intuitions such as SACCOs and banks, exist for a reason: to improve your purchasing power.

Before you take that loan to buy the car that you have dreamt about for a long time though, the first question you need to ask yourself is, “Do I need it?” The second question you should ask yourself is whether it is part of your long-term financial plan. If you do not have a financial plan, you need to first create one before you think of buying anything.

The reality is that if you make big purchases without a plan, you could end up spending your twenties, or even thirties, paying a loan you had no business taking in the first place.

Before you take that loan therefore, whip out a pen and paper and make a simple plan of where you would like to be financially, two to three years from now.

We had a chat with two experts in the field of credit, Joshua Togo, financial Advisor and Executive Director of financial advisory firm, Intergrated Capital, and Sam Omukoko, Group Managing Director, Metropol Corporation Ltd, an independent collection agency that collects credit profile information from credit institutions such as banks and SACCOs, to build consumer credit scores which measure ones credit worthiness. If you must take a loan, these are the factors you should consider.

Save first

Joshua believes your 20’s is the best time to set aside a whopping 50 percent of your income aside in saving before you even think of accessing credit of any kind.

“If you earn Sh30,000 and save Sh15, 000 in 10 months, you will have saved Sh150,000, which you can invest or use as capital for a business.”

You might be wondering how in the world you are to live off of only half of your income – the answer is easy: budget.

There is no short cut to this, great financial success is all about living on less than you earn, and prioritising expenditure with your budget. This forces you to only buy what you need, not what you want.

Now that you have your budget and financial plan, what next? Why do you need a loan if you can save? According to Sam, credit is essential to grow your purchasing power. In other words, you can now buy more than you would have with your basic salary. Now here is the catch. You need to be clear on why you are taking the credit in the first place.

ENTREPRENEURS

Cash flow is a huge challenge for startups. And in most cases, there is constant need for entrepreneurs to seek cash injection. Joshua believes that entrepreneurs should first take the following factors into consideration.

1. Ensure that you maintain impeccable record keeping: That means that for any business you do, your clients need to sign a contract with you, issue invoices, receipts, and where necessary, ensure you get a local purchasing order.

2. Ensure your accounts are audited each year: The purpose of accounts is to show investors the general trajectory of your business. Your accounts are a sign of growth potential or demise.

Joshua is quick to point out that if you cannot demonstrate what you have been doing over the last year or two of business with your paperwork, you cannot expect an investor or a financial institution to risk their money with you.

“If you can’t demonstrate how you use your own money, how can you guarantee investors that you will be prudent with their cash?” 

For entrepreneurs who have abided by the two rules, there lie credit options in the market for them. Here are just a few:

1. Government run funds:  Youth Fund and Uwezo Fund

2. Amiran Kenya:  this is perfect for agripreneurs. They offer credit to set up green houses and also provide the necessary training on agronomy. 

3. Development Grants:  Offered by international development organisations such as a Feed the Future, run by USAID, AGRA.

4. Incubators:  Some incubators provide initial funding and operational support, for instance Nailab, iHub. 

For the employed, it tends to be slightly easier to get access to credit because your pay slip offers banks and other microfinance institutions the collateral they need; your salary. So what do they look for before they deposit the loan into your account?

What you may not know is that banks, like other credit facilities, always create customer profiles to gauge your credit-worthiness. Joshua shares a general principle banks use, which is summed up in the acronym - CAMPARI.

Character:  The bank gauges your current financial situation, such as where you work, your job status – are you a permanent employee or are you on probation for example? And goes a step further to study how you handle your money, for instance, are your credit cards paid late, or whether your account is always overdrawn.

Ability: The bank gauges your ability to meet the loan repayment with regard to your income. You may want a loan of Sh200, 000, yet your monthly income is only Sh4, 000 monthly, making your repayment per month higher than your income. In this scenario you will be denied that loan. Most banks provide people with unsecured loans where they use your income as collateral. Your income is documented with pay slips. For the self-employed, Joshua argues that if you document your business activities and retain an active bank account, you too can still be considered for a loan.

Documents such as contractual agreements, invoices, receipts, local purchasing orders and even M-Pesa statements are proof of income.

Margin: The bank gauges your margin of finance. Generally, the bank never gives you the full amount you request for. You need to be financially capable of contributing a percentage toward your investment option of interest with the loan.

Purpose: The bank needs to be clear on what you need the loan for. You cannot just say you need a loan because you feel like having more money. There needs to be a compelling reason – it could be for a mortgage, or even home redecoration. You need to be clear.

Amount: The bank gauges just how much they are willing to give you based on the other prequalifying factors. The big question they always ask is how much is too much? And the answer to that is based on your income. Loan repayment should not be more than 30 per cent of your income. If it is higher than that, then you are not eligible for the loan.

Repayment: The bank seeks to gauge just how long a loan repayment period can be, from a few months to years. This depends on the amount of the loan and your income.

Insurance: Before the bank decides to lend you money, it gauges whether, if for instance you pass away, there is a guarantee that the loan will still be paid.

Credit Score

The bank looks at you through the CAMPARI lens, but the scrutiny does not end there. They also look at your credit score, which is created by credit reference bureaus such as Metropol Corporation Ltd. So what is this Credit Score all about?

Ideally, everyone who has ever taken credit, whether Okoa Jahazi, a Sacco loan or M-Shwari loan, should have a credit profile. A credit profile is a record of all the credit facilities you have ever borrowed from or enjoyed an extension of credit from and how you paid it back. The credit reference bureaus then take that information and measure it as a score. The general scoring is between 100–1000.

Scoring

100 – 400: Bad Score: You are a serial defaulter or just do not re-pay loans, you are less likely to get a loan with that kind of a score.

400- 750: OK Score: You pay back your loans, but maybe you default or just do not pay on time. You are mid-range.

750 -1000: Great Score: You are probably getting calls and emails with offers of loans. You have a great credit score, meaning you pay your loans on time or even earlier than anticipated.

Ideally, a good credit score should allow you more access to credit at more favourable interest rates. Sam says that with a credit score, one should be able to have leverage over the lending institution you are approaching, “With a good credit score, you should be able to talk to your bank to give you a lower interest rate and better credit options.”

He emphasises that in an ideal situation, banks should not compel you to provide a six-month bank statement to get a loan. Your credit score should be all they need.

So what happens if your credit score is low?

You can always improve it by ensuring you pay your loans and other credit facilities such as your water and electricity bills, even Okoa Jahazi loans, because they all affect your credit score. And ensure you keep track of your score by getting an annual free statement.

Which credit institutions share your credit profile with CRB?

 Banks

 Microfinance banks

 Microfinance institutions

 SACCOs

 Utility companies, for instance

 Kenya Power and water companies.

Trade credit for goods and services such as

M-KOPA,

 HELB

How can one access their credit score?

To register for your credit score, dial*433#, you will be charged Sh100 registration fee and receive a free credit report to start with.

You are then entitled to one free report a year. If you want another copy of the report throughout the year, you will be charged Sh250. Before you apply for a loan of any kind or make purchases such as M-KOPA’s solar home system, check your credit score.