Making a profit from borrowing

With soaring interest rates and a fiercely competitive credit card market, Moneyextra users often ask us whether a profit may be made from borrowing a lump sum at a low rate and saving it at a higher rate. Here is our response:

This practice is often referred to as 'stoozing'. The theory is that a profit may be made by investing a lump sum which has been acquired by way of a cheap loan, into a savings account (or investment) where the potential gain is higher than the cost of the debt. Once the lump sum has (hopefully) increased in value, the debt is then repaid in full, often using another low cost debt, leaving the investor with a net gain.

Some stoozers even place the borrowed money into an offset mortgage arrangement, which reduces their mortgage interest charges and therefore earns the investor the amount saved in interest.

With careful research and correct timing, it is theoretically possible to make a gain, however small, from stoozing. But many credit card companies are wise to the practice and it's not as easy to do as it used to be. If you are considering taking this course of action, then I would draw your attention to the following points:

1- Many attractive rates of interest on financial products are variable. Therefore, investors run the risk of the savings account interest rate dropping below the cost of the debt. If this happens you will have made a loss. The lower risk option is to find a low fixed rate of interest on the debt and a high fixed interest rate on the savings account. However, the rates may not be as attractive as variable rates.

2- Do your research carefully! Accounts which offer high rates of interest may not be all they seem. Some of them will have a maximum investment amount, particularly the monthly savers. Remember that with some loans there will be a charge for repaying the debt in full before the end of the term. In short, read the Terms and Conditions of each product very carefully.

3- Make sure that you keep up the monthly repayments on the debt product to ensure you don't incur any charges; or worse, a note on your credit file.

4- Very few credit card companies will allow you to transfer funds from your credit card straight to your bank account. You may find that you need to withdraw cash using the credit card in order to deposit it into the savings account.

5- Many credit cards carry a charge for withdrawing cash, which is often in the form of a percentage of the total amount. This cost will eat into your profit!

6- Remember that as a tax-payer, you will pay tax on any interest earned in the savings account. You may with to consider a mini cash ISA, where any growth will be free of savings tax.

Find the best cash ISA rateshere

7- Consider your credit rating. In order to be offered the most competitive debt products, your credit history needs to be very good, i.e. you must have a history of managing debt well. As stoozing involves getting into debt, you must manage the process very closely in order to maintain a good credit record. Any late payments or even a high volume of credit applications could affect your record negatively.

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There are many ways of investing a lump sum and this is only one of them. Stoozing is not without risk and is only suited to the most credit-worthy of individuals who have the time and high attention to detail that is required for it to work.

A less time-consuming option would be to budget your monthly finances carefully and save into a high interest savings account or mini cash ISA on a regular basis. Following the recent base rate rises, there are lots of competitive accounts available even if you would like instant access to your savings.

Best Instant Access Savings Accounts

16 July 2007 © Moneyextra.com

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Moneyextra.com recommends you should consider taking independent financial advice before acting on any article. Please contact us for help with your individual circumstances if any assistance is required.