Rational vs Irrational
January 8, 2021

You all have begun the journey of 2021. Hopefully, you will have a pleasant journey throughout the year. Of course, you would have learnt from your previous mistakes and made a resolution not to repeat those mistakes. Some of you would have decided not to borrow money and live off what you earn instead. It seems exciting to envisage a life free of debt, but as you come across the harsh side of reality, it burst your sweet, imaginative bubble forthwith.

Living off your means is good, and everybody should try to learn the art of spending within their limits, but it does not allow an interpretation that you cannot borrow money. As long as you need money to fund unforeseen expenses, there is nothing wrong to take out a loan provided you can pay it off. It is crucial to understand the difference between rational and irrational borrowing.

What is rational borrowing?

Rational borrowing is a practice that suggests taking out a loan only when you need it, and you are able to repay it. You will be a rational borrower if you meet the following conditions:

  • You do not borrow when you cannot afford

Suppose you have decided to buy a car and you are considering to apply for a personal loan. You find that you are to repay the debt over a period of 18 months and you will have consumed all of your savings by the time you repay your debt.

As a rational borrower, you will put it off. It may not be a difficult financial situation for most of you, and you will take out a loan, but it is not a rational approach. When you end up with zero balance in your savings account, you will have difficulty to meet unexpected expenses, and as a result, you will take out a new loan. The cycle will continue, and you will eventually fall into a debt trap.

You are not borrowing for investing

No matter how passionate you are about investment, you will never borrow money to buy shares, stocks, mutual funds, or invest in any other assets. A rational borrower never does that because you will make money from your investment because there is no certainty.

If your investment sinks in, it will bring a disaster to your finances. The total cost of the loan includes the amount you have borrowed and the interest payments and other fees. It is always suggested that you should not take out provident loans in Ireland to invest.

What is irrational borrowing?

Irrational borrowing is a practice of taking out a loan to meet regular expenses without bothering much about affordability. Here are the symptoms of irrational borrowing:

  • You are borrowing money to pay utility bills

Your monthly income should allow you to pay all your utility bills. These are regular expenses, so your income must have enough wiggle room to meet them. Even an unforeseen expense should not keep you from paying for such bills because you have saved money for a rainy day.

  • You are borrowing money to shop

If you are borrowing money to shop, you are an irrational borrower. A rule of thumb says that you should set aside money for shopping anything from household items to clothes. This is the planned expenditure, so you should create a budget to buy anything.

There are generally two types of borrowers: rational and irrational. Rational borrowers make the most of their money and borrow only when it is urgent and can pay off that money. As long as you can put off the purchase, you should. It is always suggested that you should pay for your needs out of your own pocket.

Contrary to this, the irrational borrower is one who is habitual of funding all needs. This is one of the significant reasons for falling into a debt trap. Now you have got to know the difference between both rational and irrational borrower. It is up to you what you want to be. Try to develop habits of being a rational borrower. Borrow money only when it is urgent provided you can afford to pay back the money.

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