Personal Finance

A mountain of debt

TOM FENNELL February 2 1998
Personal Finance

A mountain of debt

TOM FENNELL February 2 1998

A mountain of debt

Personal Finance

Paul Sampson’s plunge into debt began with good intentions. In 1985, the Vancouver resident launched a courier service. To make ends meet, he started living on his two Visa cards and re-mortgaged his home. Four years later, the business had gone under and Sampson owed nearly $400,000. Suddenly, even the minimum payments on his loans were out of reach. With the co-operation of his creditors, he began the long, painful process of paying off his debts, taking in a boarder and securing a second job to raise extra money.

With his finances finally under control, Sampson, now 37, has this blunt advice for debt-saddled consumers: burn those credit cards. But few Canadians seem to share his hard-won frugality. Lower interest rates have fuelled a buying binge over the past year that has pushed consumer debt levels to record highs. Some observers fear that an economic downtown or a dramatic spike in interest rates could trigger a wave of personal bankruptcies. ‘We are teetering on the edge,” says Glen Williston, manager of Credit Counsellors of B.C. Ltd. “If rates go up sharply, it will create a horror show.” Instead of destroying their credit cards, Canadians are now wallowing in a refinancing windfall that has made it possible for many to go even deeper into debt. According to economist Sherry Cooper of the brokerage house Nesbitt Burns Inc., $100 billion worth of mortgages will come up for renewal this year. The result: homeowners will collectively have as much as $3 billion extra to splurge on big-ticket treats such as new cars, televisions or renovation projects. With consumer surveys showing that a record 60 per cent of Canadians think now is a good time to buy, few believe the extra cash will be socked into savings accounts.

As the cost of borrowing has come down, consumers have been ringing up debt with a vengeance, says the Conference Board of Canada, an Ottawa think-tank. Total household debt hit $504 billion in the third quarter of 1997, up from $325 billion in 1990. As a result, the average household now carries debts of almost $64,000 compared with household disposable income of just over $67,000. Cooper, among others, expects the

buying binge to continue. “There is still a pent-up consumer demand,” she says. “The economy is finally picking up.”

CHARGE IT

90 Household debt as a percentage of disposable so inconm^^P

70

1990 1991 1992 1993 1994 1995 1996 1997

Household

percentage of disposable income

1990 1991 1992 1993 1994 1995 1996 1997

The high level of consumer debt is even more troubling when cast against the ability of people to save. Since 1990, the savings rate—which includes contributions to registered retirement savings plans—has tumbled from an average of 11.5 per cent of total disposable income to a razor-thin 1.5 per cent. James Frank, chief economist at the Conference Board, says much of that debt has been rung up by people who saw their incomes stagnate in I the 1990s. Desperate 5 to maintain their lifeip styles, they pulled out I their credit cards. “A lot of the growth in con|| sumer spending was fi° nanced through debt accumulation,” says Frank. “That is just not sustainable.”

Not surprisingly, debt counsellors have never been busier: a record 73,354 people declared personal bankruptcy in the first 10 months of 1997, up 19 per cent from 61,655 in all of 1992. Canadians are now paying an average of about 8.5 per cent on their debts. Cooper notes that lower rates have allowed many Canadians to assume higher debt loads, adding that savings should begin to offset debt as aging boomers sock away

more money for retirement. Frank, however, says that if rates approach 10 per cent, loan defaults will skyrocket, slowing the economy as consumers stop buying on credit. “The current debt level is manageable,” he says, “but it also has built into it the seeds of default if interest rates rise as the economy improves and inflation picks up.”

Consumers who want to protect themselves from future rate increases have several options, says credit counsellor Williston. Instead of borrowing more money when the good times roll, he says, they should take the opportunity to pay off debt so they are prepared for the next economic downturn. Second, they should never carry a balance on their credit cards. Sampson, who recently wrote a self-help guide based on his experiences, goes so far as to suggest freezing credit cards in a jug of water and thawing them out only when absolutely needed.

Declaring personal bankruptcy is another, more painful, option. To pay their creditors, bankrupt debtors are stripped of nearly all their assets. Even so, Williston says that bankruptcy might be the right course of action for those who cannot make payments that are in arrears or do not expect to be able to meet their current obligations in 36 months. “The majority of people want to pay their debts,” he adds. “But it doesn’t make sense if it is going to take nine years.” If interest rates rise in the coming months, more consumers will surely take his advice.

TOM FENNELL