Five steps for getting your financial house in order.
Eliminating debt
With COVID-19 leading to job losses and lower income levels across the country, many Canadians are taking on new or more debt, often from multiple sources, as they look to make ends meet.
Canadian household debt-to-income ratio, which the Bank of Canada considers a key indicator of the stresses facing Canadians, dropped to 166.8 per cent in the second quarter from a revised 171.7 per cent in the first quarter, but remains at elevated levels. Analysts believe the drop is partly due to record government support through the Canada Emergency Response Benefit.
“We remain concerned that some households will still struggle to keep up with their debt payments over the next year amid a slow economic recovery and challenging labour market conditions — even with government support being extended,” Josh Nye, senior economist at Royal Bank of Canada, said in a note to clients earlier this month.
With Canadian finances in a precarious state, now is a good time for Canadians to analyze their debt levels and bring their financial house in order. Here are five ways to get started on eliminating debt, whether it’s a ballooning credit card bill, auto loans, personal loans or lines of credit that have left a seemingly insurmountable pile of debt.
Start budgeting
The first step to approaching a major debt situation is to see where your money is going and where you may be able to save to go toward any minimum payments.
“What we want you to do is sit down and map out your current situation; make a list of everyone you owe money to and what the interest rates are on them,” says Doug Jones, president of BDO Canada Ltd. “Then we want you to start to work on your budget. What is your monthly income? What are your fixed monthly expenses? What are your minimum payments?”
The goal is to create a budget that has some extra money left in it so that you can then look into making larger payments on some of these debts.
Tackle high- interest debt first ( and try asking for lower rates)
Tori Dunlap is a Seattle-based money specialist who often deals with clients looking for help with debt. She says their first piece of advice is to always start with the highest interest rate first. “Debt can feel so tricky to get out of because when you’re paying monthly payments, or when you’re trying to send in money, what’s really happening is you’re not just sending in money to your original amount of money that you put on the credit card, you’re sending in money to the principal plus the interest,” she explains.
Dunlap says it’s best to funnel any extra money you have toward the principal balance of your debt, or the one with the highest interest rate, while still paying all other minimum payments if you can. She also notes that interest rates, especially with credit card companies, are often negotiable.
Consolidated loans and lines of credit
Jones says that once you’re in a position where you may not be able to even make your minimum payments, he recommends looking at some other options.
“You could get a consolidated loan at a much lower interest rate than you were paying on multiple credit cards,” he explains.
This type of loan allows you to pay a single monthly payment with a low interest rate rather than many small ones with higher interest rates.
Another strategy for finding payment plans with lower interest rates is to take out a secured line of credit against your home, Jones says. “What we don’t want people to do when they’re going through this process is to go to the payday loan type places to try to make up for any shortfalls, because they come at an extremely high interest rate,” he says. In order to deal with debt, you want to maximize savings on interest rates, so any loan with a high interest rate is just going to push you further into debt.
turn to external help
If your debt is severe enough that you can’ t manage it informally through the above strategies, Jones says it’s time to turn to external help. While he says debt management programs don’t technically exist in Ontario, credit counselling agencies can help in the same way. “They’ll look at your budget, write to your creditors asking the creditors to reduce interest rates, to as close to zero as pos
It allows them to get a ... fresh start once they’re out of debt.
sible, and give you a five-year window to repay your debt,” Jones says.
However, he notes that debt management programs mean you’ll be paying 100 per cent of your debt along with a fee charged by the credit counselling agency. Jones says if he looks at a client’s finances and if they won’t be able to pay back 100 per cent of their debts eventually, he will propose a consumer proposal. “It’s an alternative to bankruptcy that offers your creditors a payment plan for up to a five-year period,” he says.
You only need a majority of your creditors to agree to a consumer proposal, and all creditors will be bound by it if a majority agree. Under this proposal, you do not need to pay back 100 cents on the dollar and there are no interests or penalties under federal law. In order to implement the proposal, you must consult with a licensed insolvency trustee.
Bankruptcy
While the word is a scary one, Jones says bankruptcy is just another solution to debt depending on a person’s situation. If you’re someone who doesn’t have any assets to go toward a consumer proposal, this is the option for you. “It allows them to get a full fresh start once they’re out of debt,” he says.
Mike Comrie, assistant vice- president of BDO Canada Ltd, says that even while dealing with extreme debt, it’s important to have savings available for an emergency fund. “What we often see is somebody, after they pay for their basic living expenses, might have only just enough to make their minimum payments. The problem with that is, when that emergency hits, they don’t have any savings, and because they don’t have any savings they have to borrow.”