Five debt danger signs
Red flags that your debt is getting out of control and what to do about it.
Canadians can thank our banking regulations for the fact that most of us were spared the catastrophic consequences of the sub-prime mortgage crisis, but our debt levels, particularly credit card debt, are still spiralling upward. To help reign in spending before debt gets out of hand, Bankrate asked the experts about how to know when debt is getting out of control and what the early warning signs are.
Here are five red flags and some suggestions for what to do if you see them:
1. Making only minimum payments
The minimum payment on your credit card may look fairly substantial to you but it mostly goes toward paying the interest due on your account.
Patricia White, executive director of Credit Counselling Canada, says this is the mistake that leads most people into trouble: "If someone is not able to pay their credit card balance in full every month, that's the first indicator. People don't stop to think about the amount it costs them to carry a balance on their credit card."
She suggests people turn over their credit card statement and read the chart on the back for some perspective. "Fortunately on the back of credit card statements we have the amount of time it will require to pay off your balance — it can take ten years," she says.
2. Maxing out credit cards and looking for more
Credit card companies are only too happy to have you take on more debt. Perhaps you've had pre-approved cards or applications arrive in the mail and it's tempting to sign on for another few thousand dollars' worth of credit, just in case you need it.
If your cards are nearing their limits, however, this is not the right time to be looking for more credit. Every credit card company charges a fee and the fact that your cards are nearly maxed out means it's time to figure out how to pay them down, not take on more debt.
3. Cashing in a RRSP
Liquidating a secure investment is a sure sign that you're in too deep. Your savings are as important as your earnings. Cashing in a RRSP not only takes a bite out of your retirement, it will mean paying more taxes too as withdrawals are taxed as income.
4. Using store promotions to buy time
Appliance, furniture and electronic stores frequently offer deals where you can buy an item now and make no payments for six, twelve, even 18 months. However, with many extended no-payment, no-interest promotions there's a catch.
Jeffrey Schwartz, executive director of Consolidated Credit Counseling Services of Canada Inc. in Toronto, says, "At the end of the interest-free period, there's an amount due. Either it's a lump sum payment, it's an interest charge or a service charge that they haven't seen over the last 18 months. People come to us typically when it's a month away and they're not sure they can pay the whole lump sum or the higher payment."
If you use these promotions, consider them as a layaway plan and make monthly payments on the item before your payments are due. That way you have 18 months to realize your bargain. If you wait until your time is up to pay, then any savings you made when you bought the item will be lost to interest payments. Deferred payment and interest promotions are only a good deal if you use the time wisely.
5. Spending a large percentage of your income on extras
The quickest way to judge if you're going too far into debt is to check your numbers, says White. "If you're spending more than 20 per cent of your net income, after your mortgage, on consumer spending, you're too far in debt."
There is help for people with credit problems and you may even benefit from seeking assistance before these warning signs begin to appear. A credit counsellor in your community is a good place to start.
An alternative to a credit counsellor is Debtors Anonymous — an international group with meetings in many Canadian communities that uses the twelve step model of healing to help people deal with personal money issues. There you can meet with others and discuss how to manage spending, minimize debt and develop good financial habits.
However, the best advice is not to fall into the trap in the first place, says Schwartz. "People are often afraid that budgets will restrict them from spending, but the reverse is true because they can make more choices about where they're spending."
Stephanie Farrington is a Canadian writer living in North Adams, Mass.
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