Breaking the debt cycle: Your three-month plan
22 January 2014, BY DAVID SEXTON, The New Daily (thenewdaily.com.au/)
The New Daily speaks with financial experts and debt counsellors to get their insights on how to clear your debts for good.
Debt is a necessary part of life for most of us – but it can get out of hand. Some credit cards and personal loans come with steep rates of interest. That means if you accumulate large debts, it can be awfully tricky to get back in the 'black'.
Tony Devlin sees the effects of out-of-control debt all too often.
"The effects are very significant – certainly stress and anxiety, but it can lead to relationship breakdowns, addictions, health and wellbeing issues," the territorial consultant for the Salvation Army's Moneycare division tells The New Daily.
"Many clients have suicidal ideation. It can be an issue for all walks of life. Most of our clients are lower income, however, a number have previously been in higher paid positions and then something happens, for example, business failure, unemployment."
According to ASIC/MoneySmart, Australians owe around $34 billion on their credit cards, with an average debt per card holder of just under $4400. Now, not everyone owes that sort of money, but others owe much, much more.
Joe Stephan from financial planning agency Stephan Strategic says that, although the Australian dream of owning a home is still worthwhile, many clients overextend financially in order to achieve it and then seek to cover other expenses with credit cards.
"Whilst there is no typical debt level that we see on a day to day basis, as a theme we see many clients who have over committed to a significant asset such as a home, car or caravan and do not have enough income to cover expenses on a month to month basis," he said.
"The bottom line is the money has to come from somewhere and it's usually in the form of a plastic card."
Mr Devlin agrees.
"Ease of access to credit is an ongoing issue and this in some ways relates to how our society and financial systems work," he says.
"We find that people get behind financially because of some of the factors mentioned above. Then [they] resort to credit – for example, credit cards or more fringe lenders – to get them through that week, to allow them to pay the rent or mortgage, for the car repairs or replacing the fridge. And then unfortunately the situation escalates because of the cost of that debt and in the long run people are worse off."
Prepare a budget to identify your 'want' spending: That is, unnecessary spending that can be eliminated and will create savings capacity.
"Once you have identified what you can go without, create a regular deposit of the amount saved to be paid off your debt," Mr Stephan says. Moneycare recommends using a spending diary to keep track of your expenses.
Ian Lynch from Christians Against Poverty says a budget doesn't have to be fancy, but it's important to be truthful and to record everything. "You'll probably be surprised at how many little purchases you make and how much that adds up to," he says. James Stephan, also of Stephan Strategic, says this process is also about 'tightening the screws' and reducing overall spending.
Speak with credit providers:This means talking with the providers of your power, phone, gas and requesting an extension of bill payments and perhaps a remodelled contract. "If you have a good history of payment you shouldn't have a problem in being granted an extension," James Stephan says.
Look at the status of your debt: Executive director for debt solutions company Fox Symes, Deborah Southon, says that many clients had four to five credit cards as well as high-interest personal loans and goods on expensive flexi-rent programs. "You need to establish if the debts are in arrears and just how many debts you have got," Ms Southon said.
Review your interest: "Review the level of interest you are paying on your debt," Mr Stephan says. "If you have credit card debt and you have past the interest-free period you could be paying upwards of 20 per cent," he says. "Some cards offer attractive sounding offers for moving over your credit balance to them, [but] make sure you understand the implications before you move over."
Downsize assets: "If you have overextended yourself to any one asset, you may need to consider selling to clear the debt and perhaps look for a purchase within your budget," Mr Stephan says. "Remember to speak to your accountant or financial adviser about the tax implications of doing so first."
Ms Southon says underused assets like boats, second cars and motorbikes can be sold. "Think about if there is something I can sell and use that money to pay off some of the debt," she says. Check up to see if you are going to get any work bonuses or tax breaks. If you are, make sure you direct them to your debt and not your lifestyle.
Tax options: Talk to your accountant about a Tax Variation Schedule. A tax variation schedule is essentially used to increase your net income during the financial year by reducing the amount of tax withheld from your income by the ATO by approximating your expected taxable income and tax refund at the end of the financial year. "Please note that this measure should only be considered once a significant effort has been made to budget and exercise control over spending," Mr Stephan says.
Cut up your credit card: "You only need one card as extra fees and charges associated with extra cards will exacerbate your problem," Mr Stephan says. "Please also remember to pay your credit card bill each month to avoid excess interest charges."
Income: Mr Stephan says one should aim to save pay rises, bonuses, special payments and tax refunds. Executive general manager of RaboDirect in Australia and New Zealand Greg McAweeney says it's an idea to switch to a debit card such as Visa/MasterCard debit. "This will allow you to purchase goods online and enjoy the convenience of a credit card without going into debt," he says.
Consider consolidating debts: If having done your budgeting, belt tightening and spoken with your credits and your debts still seem insurmountable, it may be time to consider a debt consolidation plan.
A debt consolidation plan is where one tidies up bills, fees and loans into one loan and focuses on the repayment of this over the long term. Debt consolidation is often (but not always) in the form of an unsecured personal loan with an interest rate lower than one's credit cards. This can work but it requires one to be disciplined and not 'max out' one's recently cleansed credit cards.
As Ian Lynch notes: "It might seem like a quick solution to take our an unsecured loan, or use credit to pay off debt, but this is only delaying reality," he says. Ms Southon agrees. "A lot of people also have unsecured personal loans and have taken out personal loans to consolidate the debt because they've run up the credit cards again." She notes the danger of 'pay day loans' – short term loans with high interest rates.
Money management courses: It might be an idea to swallow your pride and do a course in money management. CAP offers one but there are others. Just as the challenge with obesity is as much about keeping off the kilos as losing them, so it is with debt. A basic course could pay dividends in the longer term.
Work harder: Easier said than done, perhaps, but sometimes the best way forward is to get another job. Perhaps a weekend shift at a supermarket on top of your Monday to Friday role.
Property options: If there is substantial equity in your property (the difference between the market value of your property and the price you paid for it), it may be possible to 'release' some of it to clear your unsecured debts. Again, you may need to negotiate with banks to get a decent deal and it is probably a good move to speak with your accountant regarding any tax implications.
Phone a friend: If it's really all too hard, it's probably time to ask for help. CAP offers a free debt counselling charity. Private companies can also discuss different debt management options including legally-binding ones.
Some thoughts on debt
For some people, the horse may have bolted and one simply hasn't the necessary income to meet repayments, let alone clear the debts.
Under such circumstances, you might need to consider an informal debt repayment plan, a formal debt repayment arrangement or – the most serious option of all – personal bankruptcy.
All these options carry ramifications, but may be for the best in the longer term. It may be best to 'bite the bullet' and endure the short to medium term pain in exchange for longer term peace of mind.
You can speak with a private company or do some initial research with the Australian Financial Security Authority.
As Ian Lynch notes, the effects of debt on families and individuals can be devastating with a recent CAP survey showing:
- 45 per cent of clients visited their GP, and 76 per cent of those were prescribed medication to cope;
- 84 per cent lived in fear from financial pressure;
- 1 in 3 considered or attempted suicide;
- More than 1 in 3 had a relationship breakdown due to their financial state.
Clearly large debts can be a great burden, not just financially but psychologically as well. But by addressing these issues and developing a repayment plan, you can regain both your financial health and peace of mind.
As Chinese philosopher Lao-Tzu said: 'A journey of a thousand miles starts with a single step.'