New Year’s money resolutions: How to break the revolving debt cycle

Despite making a budget, and checking it twice, experts say many Canadians still overspent this holiday season, leaving them in even more debt heading into the new year. Canadians reportedly planned to spend nearly $600 on holiday shopping, with more than half of respondents expecting to go over budget.

Unfortunately, bill payments don’t take holidays, so taking on extra debt can leave many people feeling stretched when the parties are over and reality sets in. According to a recent poll by CIBC, nearly 30 per cent of Canadians surveyed said paying down debt is their top financial goal in 2017. Of those focusing on debt repayment, the majority (76 per cent) are most concerned with paying their credit card and line of credit debts. These types of debt are what are considered revolving debt.

If you’re part of this group, you probably had every intention of keeping your holiday budget in check. You made a list, checked it twice, and even scaled back your other spending leading up to December. But that extra space on your card, plus the temptation of all those holiday deals, got the best of you.

Here are my tips for getting in control of your revolving debt, so you can be debt-free faster: 1. Understand why revolving credit doesn’t work for many people The thing about revolving credit is that it makes it easy and convenient for you to stay in debt. Your thrifty holiday spending plans easily fall by the wayside when paired with the psychological high of buying the latest tech gadget, pair of shoes, whatever it may be. It doesn’t help that we’re inundated with a spike in advertising and sales encouraging us to spend during the holidays. The extra room on your credit card can start looking extra appealing.

Revolving credit comes in the form of a credit card or line of credit that lets you immediately re-borrow what you paid back on principal. And many revolving credit products allow you to pay back only the interest. It’s a major reason why so many people find themselves stuck in what feels like an endless cycle of debt.

This type of debt encourages overspending or maxing out your limit regardless of whether you have a five per cent or 30 per cent interest rate. In fact, 46 per cent of Canadians carry a monthly credit card balance.

Missing credit card payments, or even maxing out your credit card, will have a negative impact on your credit score, which can have negative repercussions down the road. Your credit score matters to lenders when making a decision on things like applying for a mortgage, and some employers even check your credit score before offering you a job. 2. Consider an installment loan to consolidate your revolving debt Unlike revolving credit, an installment loan has a specific term and requires you to pay back interest and principal in every payment, which means you have a set deadline for paying it off and getting out of debt. Many people only focus on interest rates but they may be surprised to find that paying off an installment loan (even with a higher interest rate) could allow them to pay less interest. It’s important to consider the type of credit product and the total cost of borrowing, rather than the interest rate alone.

For example: Say you have a credit card with $10,000 on it at a 19.9 per cent interest rate, and you’re only making the two per cent minimum payment each month. At that rate, it’ll take you 83 years to pay it completely off.

Even if you’re able to chip away and pay it off over the year, if you’ve been stuck in the revolving debt cycle in the past it’s very likely you could find yourself tempted to spend again once you see that number going down.

On the other hand, if you were to consolidate that same $10,000 debt by paying it off with an installment loan, you could be out of debt in as little as four years.* 3. Stick to a payment schedule Once you’ve consolidated revolving debt with an installment loan, it’s important to stick to your payment schedule. Some digital financial companies, like Mogo, will send you alerts with regular reminders about payments to help you stay on track.

If you’ve decided to consolidate your credit card debt, don’t get rid of the card or close the account, though. Closing a card or leaving it inactive can negatively affect your credit score. Instead, use my Netflix and Chill tip: Link your credit card to your Netflix account for your $9.99 monthly subscription charge, then set up an automated payment from your bank account to ensure it’s paid off every month. Lastly, throw the card in the freezer to give it some much-needed chill time.

Paying down a balance of revolving debt and transferring it to an installment loan will also help your utilization ratio as the credit score weighs more on revolving utilization than installments. Your utilization ratio is your level of indebtedness, or how much of your total available credit you’re using. For example, if your credit card limit is $1,000 and your balance is $1,000, your utilization ratio is 100 per cent — and this not good in the eyes of the credit bureau. You always want to keep your utilization ratio under 70 per cent.

Mogo Finance offers personal loans with rates for Canadians with different credit backgrounds, as well as a free credit score with free monthly updates. Learn more at mogo.ca. *Based on a 5.9% interest rate

CLOSING A CARD OR LEAVING IT INACTIVE CAN NEGATIVELY EFFECT YOUR CREDIT SCORE

SUPPLIED