Oran Hall | Fixing a personal debt problem
QUESTION: I am currently in debt for a total of $1.2 million, which is spread across three financial institutions. My credit score is the lowest. I earn $106,000 net per month. My bus fare for work is $30,000 per month, and I have two children, ages one and five, whose allowance is $25,000 per month. I don't pay rent, but I contribute $30,000 monthly to bills and other expenses. This leaves me with roughly $21,000 to spread across all three entities, but my required monthly payment is actually $38,000 monthly. What can I do to fix this debt and rebuild my credit score?
FINANCIAL ADVISER: You have a serious problem: You have a serious budgetary gap, but your expenses all seem to be necessary. If you are not able to earn additional income, you need to cut $17,000 from your expenses to be able to service your debt satisfactorily.
Perhaps you should try to find a job that pays better or a part-time source of income so that you can at least balance your budget. At the same time, hope that your living arrangements remain for a long time because it would almost certainly cost you much more were the current arrangement to change.
I am not able to say what caused you to get into debt of this magnitude, but you need to realise that servicing your debt satisfactorily should be one of your highest priorities. Whether the lender is a financial institution or not, borrowed money is not yours, so it should be repaid before other expenses are addressed.
From the way you have outlined your case, you clearly have been giving repayment of your debt a low priority. Repaying only a portion of your debt is helpful in so far as it reduces the balance, but it does not help your standing with the lender, and it increases your interest cost.
You can begin the slow process of rescuing your credit score by making your monthly payments in full and on time. Only you can determine what to cut to make funds available to cover the shortfall if you are not able to earn additional income.
In general, too many people incur debt to meet routine, basic living expenses, take on high-cost debt, and incur debt to acquire depreciating assets that do not generate income, such as private motor cars.
It is best to borrow to acquire assets that appreciate or that generate income to avoid buying an asset for more than it is worth and to borrow a sum that is within your ability to repay.
Here are some ways to avoid debt: maintain an emergency fund to provide funds for unexpected expenses, defer making purchases until you can afford to, use a shopping list, and make a realistic budget and stick to it.
One or more of the following could be a hint that you have too much debt: you are using an increasing amount of your income to pay debt; the collectors keep calling you; your cheques are being returned by the bank for 'insufficient funds' or tagged 'return to drawer'; your credit card declines because you have exceeded your limit; you depend on your overdraft facility to pay recurring bills; you are using cash advances on your credit card to pay other bills; you tend to make the minimum payments on your credit card; you borrow to pay basic bills such as utilities; and you do not know how much you owe.
Not all debt situations are serious, and sometimes, they are temporary due to loss of job, sickness, or overspending that has not become chronic. A new job, restoration of health and an effective programme to reduce spending can restore balance in such circumstances.
In cases in which a reduction of expenses is the solution to the problem, it may be helpful to cut unnecessary expenditure and spend only on essentials; reduce or eliminate discretionary spending; reduce required spending that is variable, such as food; and dispose of assets that are really liabilities, for example, a troublesome car.
Debt that is used wisely and moderately can enhance financial well-being. On the other hand, debt used carelessly or too much can be a major hindrance to financial well-being and often just masks a serious financial problem.
- Oran A. Hall, principal author of 'The Handbook of Personal Financial Planning', offers personal financial planning advice and counsel.