Business graph with arrows tending downwards.
There is a good news/bad news scenario with Canadian household debt; the good news is that household debt levels have pulled back considerably in recent months; the bad news is that they are still elevated, which means that numerous Canadians are still financially vulnerable.
“During the past several years of ultra-low interest rates, Canadians have piled on debt, as borrowing seemed ‘affordable’. However, with interest rates and the cost of living rising, Canadians are slowing their pace of borrowing, but debt levels still need to come down,” says Jeff Schwartz, executive director, Consolidated Credit Counseling Services of Canada.
Is your debt more than you can handle? Paying your debt down puts you in control of your finances again. Call one of our trained credit counsellors at 1-888-294-3130 or check out our free online debt analysis .
Canadian Household Debt Falls
According to the most recent data from Statistics Canada, Canadian household debt has actually hit a two-year low in the last quarter. While this is a notable step, debt levels had been hovering at near-record levels for some time and are still elevated.
In the first quarter of this year, the debt ratio (household debt as a proportion of household disposable income) was at 168 per cent, down from 169.7 per cent the quarter prior. This is the second quarter in a row where debt levels have declined, which is a consistent move in the right direction. This drop marks a two-year low and marks the biggest decline seen quarter-to-quarter in the 28 years that Stats Can has been collecting this particular data.
While this data is encouraging, household debt levels still sit on average at 168 per cent. To put this in simple terms, for each dollar earned, we still owe $1.68.
“When you consistently owe more than you make, you will have a hard time getting ahead financially, Additionally, the more debt that you have, the more vulnerable you are if interest rates go up again, or if your income is interrupted or stopped due to a job loss, illness or injury,” says Schwartz.
One particularly bright spot on this report is the marked decline in mortgage borrowing. Mortgage borrowing has fallen significantly, actually hitting a 4-year low. This is mostly due to the combination of higher interest rates last year and more stringent mortgage qualification rules coming into effect earlier this year. These limit homeowners’ ability to borrow. In the expensive markets like Toronto and Vancouver, people have had to either buy less house or put their home-buying plans on hold until they have more cash on hand.
While these new rules may seem like an additional barrier for homeowners trying desperately to get a foothold into the housing market, they actually are a good thing. They reduce indebtedness in relation to income and reduce overall financial vulnerability.
What is your debt-to-income ratio?
How are your own household debt levels? One way to test out if you are over your limit is to calculate your debt-to-income ratio. Add together all of your monthly payment obligations (including mortgage/rent, utilities and debt payments). Divide this number by your income.
At the absolute max, this number should not exceed 40 per cent. If you are more than 40 per cent (or even close to 40 per cent) seriously consider reducing your debt load.
Here are some ways to reduce your debt and bring that ratio to a more reasonable level.
Keep your mortgage debt low
It is important to remember that real estate works in cycles, as prices go up and down. If you happen to buy at the peak of the market (which many people have done in pricey cities over the last couple of years) and have a maxed-out mortgage, it’s very possible that you’ll end up owing more on your mortgage than what your home is worth. If you are forced to sell for whatever reason, and the value of your home is below the amount that you borrowed, you will have to take a loss on your house.
This is even more dangerous if you are justifying taking out a large mortgage, assuming that you can use your home’s equity as a “nest egg”. With too much mortgage debt, you may find that your savings actually fall short of your goals, causing you to turn to debt.
The answer here is to keep your own mortgage debt low. When you seek a pre-approval from your lender, set your budget far below your maximum allowed amount to let you spend within your means and build up cash savings. This may mean compromising on your home choice, location, or extending your timeline to save more.
Stop accumulating debt
If you’ve been borrowing over the last few years as so many other Canadians have been, make a conscious decision to change your approach to spending. Don’t buy now and pay later. Save up first and avoid debt (and the costs of interest that you accumulate) entirely.
This means setting up a budget that will help you to spend within your means. Commit to cash and take your credit cards out of your wallet. Delete credit cards that are stored on online shopping sites.
Pay existing debt down
In addition to keeping your mortgage debt down, you need to keep other household debt (like your auto loans, credit cards and lines of credit) down as well.
Consider consolidating your debts, either with a balance transfer or with a personal consolidation loan; this will let you pay your debts down most quickly because you combine multiple debt payments into a single payment.
Go through your budget and find areas to cut back temporarily so that you have extra cash on hand to pay your debt aggressively. Consider getting extra cash, either through a part-time job or by selling household items to put down in lump sums on your debt.
Don’t forget savings
Be sure to include monthly savings as part of your debt repayment plan. Without savings, you are vulnerable to having to turn to debt in the event of an emergency.