Published on January 17, 2005

Below is part of a list of recommendations from Visa International on how to manage personal debt and stop “loading” debt, and is worth a read. The full text can be found on www.mymoneyskills.com/my. A Thai version of this information will be available in March on www.mymoneyskills.com/th.

The Nation has only adjusted the units of currency used in this piece to reflect values in baht.

What is debt load?

Debt load is a term that is used to describe a consumer’s amount of debt. It is often used to understand if you are carrying a safe amount of credit. Creditors look at a debt-to-income ratio, comparing your income with your expenditure to analyse whether you have too much debt. The ratio reveals either how good, or bad, your financial picture is on a regular basis.

You can figure out this ratio for yourself. Add all your non-housing monthly payments except for your utilities and taxes. Then compare that total with your total gross annual wages divided by 12. When you divide your monthly debt payments by your total monthly income, you will get your monthly non-housing-debt-to-income ratio.

Example

Gross monthly income is Bt20,000

Monthly debt is Bt5,000 (credit-card payments, petrol bills and car payments, etc)

Bt5,000/Bt20,000 = 25 per cent

Your debt to income ratio is 25 per cent

Rule of thumb

If your non-housing debt is 10 per cent or less, you’re in great financial fitness. If your non-housing debt is 10 to 20 per cent, then you’ll probably be able to get credit. But as you approach 20 per cent, you may need to start thinking of reducing your debt load.

There have been many attempts to devise formulas for setting limits on the amount of real-estate debt one should carry. One rule of thumb is two (or 2.5 to 3) times your annual income. If the annual household income is Bt700,000, a mortgage company might loan up to Bt2.1 million provided the house is worth the money and the other credit factors are satisfactory.

However, be careful. Just because a lender may be willing to extend credit doesn’t mean that you should necessarily borrow that amount. You should also factor in your own specific fixed and variable expenses to determine your own ability to pay. How much you spend on real estate may depend on which country you live in. Remember, if you’re high on real-estate debt, you may want to lower the debt-to-income ratio to compensate.

The 28/36 rule

Here’s another rule that is used by mortgage lenders – the “28/36 rule”. Your monthly household-debt service should not exceed 28 per cent of your gross monthly income. Your total debt service, including your house payments plus all other payments, should not exceed 36 per cent of your gross monthly income.

The percentages may be adjusted according to the costs of living and real-estate prices of individual countries.

More to think about

In determining your own debt-load limits, you also need to consider:

l The stability of your income

l Your other regular expenses

l Your need for cash from month to month

l The changes in your cash needs as you and your household grow older

l All your personal needs and wants and goals

l Any extraordinary expenses you might have that would affect the standard rules, such as caring for sick family members or special medical needs.

Remember that your debt spends your future income. You have less money now to do things you want to do because you must pay for items you’ve already bought, and in many cases, already discarded.

Begin the habit of regular savings. It’s cheaper to save for an item first than to buy it on credit and then make payment instalments with interest accrued. Keep your future debt load reasonable.

Warning signs

It’s hard to admit when you’re having a problem with debt. This is natural. Debt can be painful. Here are some things that might indicate you’re headed for trouble:

l Next month’s bills are here before you’ve paid last month’s

l You get frustrated when you start to write checks

l There are more bills than you thought

l You know what past-due notices look like

l You get an overdue balance on a credit-card statement

l You avoid opening letters or answering calls

l You rarely keep a running balance in your chequebook

How to get out of debt?

There are two effective ways to change your debt load and debt-to-income ratio:

l Cut spending

l Bring in more money

Cutting spending can be the fastest way to reduce the debt load, unless additional work and income is readily available.

Some have equated cutting spending with surgery for your money management. But as you heal, with better financial health, you’ll probably also notice that your attitude, relations with others, emotions and sense of humour start getting better too.

Recognise that you don’t have to continue to add to your debt load with additional purchases. Remember, you may have found a terrific bargain on a stereo, but if it takes three years to pay it off, the money you “saved” won’t matter.

Avoid impulse purchases. You’ll be surprised at what a difference this can make.

Cut down on eating out. The cost of dining out for a week compared to a week of meals bought at a grocery store and cooked yourself should quickly show you how fast you can reduce your debt load by taking small steps now. A little bit every day is a great start on your financial-fitness programme.

Think about ways to bring in additional money – either an extra part-time job or a better paying primary job. There is more than one way to change your debt load!

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