Although the Bank of Canada’s key interest rate target remains at just 0.25%, Canadians have been told to expect the cost of borrowing to rise soon.
Any rise in interest rates will undoubtedly put more pressure on Canadians who have already accumulated significant debt, said Kelly Ho, certified financial planner at DLD Financial Group Ltd. based in Vancouver.
“For things like mortgage and car payments, if families have maxed out their borrowing capacity and are barely doing so, obviously any kind of rate increase will be devastating to families’ cash flow. households,” she told CTVNews.ca in a phone interview. February 9.
Jason Pereira is a Senior Financial Advisor at Toronto-based Woodgate Financial Inc. and President of the Financial Planning Association of Canada. He says people with variable-rate mortgages are particularly vulnerable to rising interest rates, as well as those who have already accumulated a significant amount of credit card debt.
“If there are successive increases, it will essentially increase the monthly payments and it will cause them difficulties in terms of cash flow,” he told CTVNews.ca on February 10 in a telephone interview. “At the end of the day, if you’re someone who lives paycheck to paycheck and barely manages debt, that’s by no means good news for you.”
A new report published by MNP Ltd. shows that Canadians are reporting record levels of confidence in their personal finances and their ability to repay debt. According to the MNP Consumer Debt Index calculated for December, 43% of Canadians were concerned about their current level of debt, an increase of five points from the previous survey conducted in September. Meanwhile, 55% of Canadians were confident in their ability to comfortably cover their living expenses in 2022, a drop of five points from the previous survey.
For anyone whose finances are badly hit by interest rate hikes, Pereira said finding ways to stop living on the cutting edge of budgeting is crucial.
“If a 1% change in interest rates is going to put you in a situation where you’re struggling to feed yourself, you’re already too close to the edge,” he said. “You have to take proactive measures [to] decrease spending. »
Pereira, Ho and other industry experts share their top tips for managing household debt:
1. Assess existing spending habits
An important first step in managing household debt is to examine current spending habits to find opportunities to save. Part of that is identifying your fixed expenses, Ho said.
“You really need to know what the non-negotiables are,” she said. “What are these expenses that flow where you have absolutely no choice?”
Examples include the mortgage, rent or any bills associated with housing, as well as transportation-related expenses such as car maintenance or insurance, and even retirement savings, she said. . These are all payments that need to be prioritized.
It is also essential to assess the net income on a monthly basis and determine how much of it is actually spent on these mandatory payments. This could lead to important revelations about how the money is actually spent, Ho said, and how to redirect cash flow if necessary.
“For those who are in difficult situations, unfortunately, sometimes it’s a bit of a reality check,” Ho said.
2. Develop a cash flow plan
According to Ho, most people struggle to control discretionary spending — in other words, spending on things they can live without. While this typically involves travel, entertainment, clothing, and even take-out meals, each person will have their own definition of what is considered discretionary and how much money to spend on such purchases.
Instead of telling her clients how to spend their money, Ho said she’ll work with them to develop a cash flow plan that involves weekly spending limits on items like food and clothing. Plans should be based on each person’s specific income and financial goals, she said.
“If you’re spending without limit, if you don’t have that weekly figure of what you can actually afford to spend without compromising your ability to pay for those non-negotiables, is that going to break your situation?” she said. “Unfortunately there are a lot of people who don’t think that way.”
Ultimately, deciding what to keep and what to cut is a personal decision, Pereira said, which should be based on individual preferences and values. For some, buying a cup of coffee in the morning may seem like a waste of money. For others, it’s a valuable investment that helps them get through the day. These are all things that should be taken into consideration when developing a cash flow plan, he said.
“You have to decide for yourself what’s not important to you, what you’re happy to live without,” he said. “And stick to it because the alternative is just to put yourself in a very bad place of financial difficulty.”
3. Consider getting rid of your credit card (or keeping it in the freezer)
For those struggling to pay off their credit card balance each month, Greg Pollock, president and CEO of Advocis, the Financial Advisors Association of Canada, says it might be a good idea to exchange the credit card for a debit card.
“Credit card interest rates are exorbitant,” he told CTVNews.ca in a Feb. 9 phone interview. “So if you’re paying interest on your credit card, I think it’s a really good idea to get rid of your credit cards.”
Importantly, giving up credit cards can impact a person’s credit score and ability to borrow later, Ho said. Instead of just canceling the card, Randolph Taylor, an accredited financial advisor with Credit Canada Debt Solutions, suggests putting it in the freezer to avoid temptation.
“Reducing a person’s ability or access to debt is always a good thing,” he said in a phone interview with CTVNews.ca on Feb. 10. “It can be a good tool to ensure that no further purchases are made.”
Instead, Ho will recommend customers use a reloadable prepaid credit card for day-to-day expenses. Similar to gift cards, these cards can be preloaded with certain amounts of money that match weekly spending limits, helping people stay on track, she said.
4. Aim to pay your bills on time
If possible, it’s essential that people pay their bills on time to avoid late fees and the accumulation of unnecessary debt, Pollock said.
“As a general rule, people should pay off their debts as they come in,” he said.
Pereira also recommends looking into planning for mortgage and other debt repayments. Often due around the same time each month, accounting for these payments in advance can help with organization and budgeting, he said.
Discipline is also essential.
“Planning your savings and debt repayments goes a long way in eliminating the [spending] capacity you have,” he said. “Knowing that I can’t spend more than what’s in my account is a form of discipline…you don’t have to go so far as to have to sit down and budget every last thing you go spend.”
5. Consider consolidating your debts
Often the best option for effectively managing debt is to consolidate it, Pereira said.
“Too often people will have a car loan here, they will have a mortgage here, they will have a line of credit here, they have part of their loans elsewhere and a credit card balance,” he said. . “They better use a home equity line of credit to pay off all non-mortgage assets.”
A form of refinancing, debt consolidation involves taking out a single loan to pay off a number of other smaller loans, usually with more favorable payment terms. Finding ways to refinance debt at a lower interest rate can help save money in the long run, Pereira said.
The key is not to make matters worse by continuing with high levels of spending.
“If you make it worse, it will just buy you a little more time to dig yourself a deeper hole,” he said.
6. Consider a savings plan
While each person’s financial situation is unique, setting up a savings fund will help provide some level of security in the future and help manage any debt you incur later, Pollock said. A good starting point is to set aside 10% of net income.
“You start accumulating assets that you can then use to invest wherever you want to invest, whether that’s in a TFSA, RRSP or other investments,” he said.
To better manage day-to-day expenses in an emergency, setting up a personal rainy-day fund is also worth considering, Pollock said. The rule of thumb is to set aside enough money to cover six months of fixed expenses for any unforeseen events, such as the loss of a job or an injury requiring lost time.
7. Understand that financial plans will change over time
When putting together a financial plan, it’s key to stay flexible, Pollock said. No one knows what will happen next year, next month or even tomorrow, so financial plans must be constantly reassessed and adapted to current situations and needs as they arise, he said.
“If people think you’ve got a financial plan and now you have this magic thing to hold on to that’s going to solve all your problems, that’s just not the case,” he said. “You need to review this very regularly, i.e. semi-annually or annually, and readjust it according to the current circumstances.
“There is no one-size-fits-all solution.”
8. Consult a financial adviser
For those who are really struggling to get household debt under control, working with a third party can be helpful to re-examine your spending, Pollock said.
In addition to discussing income and spending goals, financial planners can also offer advice on options for resolving debt, Taylor said, whether it’s consolidating or refinancing a property.
“We go through everything to put a person in an informed position to make the best choice,” he said.
Finally, having access to a financial planner may also encourage people to avoid being so lax with their spending habits, Ho said.
“What a Certified Financial Planner is supposed to do is educate people not to max out their borrowing capacities and to really look at their bigger picture to [determine] if they can handle an interest rate hike,” she said. “When you don’t have that element of accountability, who are you really accountable to?”