Canada moved up to fifth place from eighth of countries with the most millionaire households in 2016, according to a recently published report by Boston Consulting Group (BCG).
And yet, the Bank for International Settlements (BIS), Bank of Canada and other organizations have recently expressed concern about the country’s debt problems.
Warnings About Debt
The BIS, which serves as a bank for central banks, is flashing warning signals that mean Canadian debt has reached critical levels, and will likely result in a financial crisis. The BIS notes that the gap between credit consumption and economic output (gross domestic product) has reached a critical 14.1 level in Canada.
That gap measures the risk associated with the credit given to households and businesses in a country. The BIS considers anything above 2 to be a strong gap, and anything above 10 to be a critical warning. Breaching 10 results in a banking crisis in two-thirds of economies within three years.
More locally, the Bank of Canada recently warned that Canada’s financial system is becoming increasingly exposed to economic shocks as household debt levels continue to climb and major housing markets remain hot. The central bank noted that highly indebted households have less flexibility to deal with sudden changes in their income.
“As the number of these households grows, it is more likely that adverse economic shocks to households would significantly affect the economy and the financial system,” the bank said.
And while it seemed Canadians were ignoring its warnings about high household debt, the central bank posted a video on YouTube explaining how the dangerous combination of debt and inflated house prices could lead to recession or worse.
Statistics Canada also recently confirmed that many Canadians are drowning in debt. The agency said Canadians owed $1.67 in consumer credit, mortgages and non-mortgage loans for every dollar of household disposable income in the first quarter of 2017. That was a slight quarterly decrease as household net worth rose from the end of 2016.
It’s interesting to note that despite the high debt levels, most Canadians don’t appear to be defaulting. Credit agency TransUnion says that the 90-plus day non-mortgage account delinquency rate in the first quarter of 2017 dropped to 2.72%, down nearly 1.5% from the year before.
Back to the Wealthy
Meanwhile, Canada’s richest households control an ever-growing share of the country’s wealth. According to the Fraser Institute, a nonpartisan research and educational organization, the top 20% of Canadians own about 67% of the country’s wealth and the bottom 20% own none. But what accounts for this inequality? Not necessarily hard work or large inheritances.
“A deeper understanding of the statistics reveals the vast majority of wealth inequality in Canada is simply due to differences in people’s age and the fact that people accumulate more wealth as they get older. In other words, wealth inequality is largely a fact of life,” the Fraser Institute says.
Meaning that the wealth gap in Canada is explained by people’s stage in life.
But that doesn’t help if you’re saddled with debt, whether you make more than $500,000 a year or less than $30,000. What can you do about it? Here are a few suggestions.
Getting Out of Debt
The first step is to calculate your debt situation. Your financial advisor can help with this. One way is to find your debt-to-asset ratio. This measures what you owe (liabilities) to what you own (assets). Add up your mortgage, car loan, lines of credit, credit card debt and anything else you owe. Then tally your total assets, including the appraised value of your home, savings and investments including Registered Retirement Savings Plans and Tax Free Savings Accounts, and any other property that’ll grow or retain its value.
Divide your debts by your assets and multiply by 100. You want a low ratio. For example, if you owe $300,000 and have $75,000 in assets, your ratio is 400%. But if you owe $75,000 and have $300,000 in assets, the number is a much smaller 25%.
Then, regardless of how much you earn, consider these ways to control your spending, manage debts wisely and, if necessary, reduce your liabilities:
Create or review a budget. This will help you figure out how much money you take in, spend and save. It’ll also help you balance your income and regular expenses as well as guide you toward your financial goals.
Organize. Take stock over everything you’re spending money on each week. Keep receipts in order to help you get a handle on where your money is going. Pay yourself first, through auto-deposits into savings accounts or retirement/pension plans.
Distinguish between want and need. This can help you reduce expenses for what might be frivolous things such as a sports car you’ve been eyeing, extra cable channels or that big-screen 4K television set. Make spending choices based on what you need — not what the TV ads or signs in shop windows say you need.
Review your automatic payments. You may be paying for things you no long use, such as club or gym memberships, newspapers or magazines. Stop these immediately.
Shop for bargains. You can usually find ways to cut costs, whether it’s the kids’ clothes, dental checkups, car wash, books you could get at the library instead of purchasing them or bulk food instead of expensive premium brand food.
Avoid late fees. Save yourself extra fees and expenses by paying bills before they’re due or set up auto-payments at your bank for what you actually use.
Decide which debts to pay off first. By paying off the balances with the highest interest first, you’ll pay less interest. This will help you become debt-free sooner. List your debts in order from the highest interest rate to the lowest. Make the minimum payments on all your debts. Then, use any extra money to pay down the highest interest debt.
You may want to start with your debt with the lowest balance. You may feel an accomplishment by paying off a debt. This can keep you motivated to maintain your goal of becoming debt-free. However, this option may cost you more in interest over time.
Work with your creditors. Contact creditors to discuss your financial situation. They may offer such solutions as:
- Lowering the interest rate on your debt,
- Extending payments over a longer period of time, or
- Reducing your minimum monthly payment.
Close accounts that are paid. Once you pay off a debt, consider closing it. One account with a low credit limit can be useful to maintain or improve your credit score. Keep only what you need and can manage responsibly. You may also want to consider using a secured credit card instead of a regular credit card. A secured credit card requires you to leave a deposit with the credit card issuer as a guarantee.
Lose the credit cards. There’s no easier or faster way for you to increase debt than using credit cards. Something about charging purchases makes many people think they aren’t increasing their debt. The best way to dispel this illusion and get your spending and debt under control may be to cut up credit cards.
Consolidate debts. If you have high-interest loans, consider taking out a single loan with a lower interest rate to consolidate your debt. This will mean you’ll only have to make one payment.
A consolidation loan may help you get out of debt, if it:
- Has a lower interest rate than all your other debts put together, and
- Has a lower monthly payment than all your other debts put together.
But be careful to not to use the credit that is freed up. If you can increase your payments on the consolidation loan, you’ll reduce your debt faster and pay less in interest. A consolidation loan won’t hurt your credit rating if you make the payments on time.
Consult with your financial advisor for more ways to manage your debt and build your net worth.