The Burden Of Debt

Debt. She’s a heavy burden to carry.

According to a recent research report by the Financial Services Council, 46%¹ of New Zealanders have had their mental health affected by their finances.

“The majority (51.3%) say at some point in their life, financial issues have adversely affected their overall wellbeing.”¹

Do you avoid the mail? Cringe answering unknown numbers? Hold your breath as you check your emails? We get it. Debt can cause crippling, anxiety-inducing, paralysis.

How can you even start to think about saving, a new home, or retirement when all that you can focus on is the large negative balances all around you. All those negative numbers create a lot of negative energy. It might feel like it is not just your finances that are unbalanced.

If this is resonating, we have good news. You can fix it.

First, let’s understand debt. We’re going to look at the good, the bad and the ugly. Then we’re going to show you the way out. Once you understand good debt and bad debt, you’ll have the know-how and the can-do to continue moving forward. There is a light at the end of the tunnel, and it’s an awesome, empowering, liberating light. Your financial freedom starts now.

The Good

In financial planning, we often talk about good debt and bad debt. It’s not all considered equal. Take a home loan; it would be uncommon to purchase a house with cash outright. We take on a loan to pay off the house and generally the house will gain in value, so our debt is unlikely to ever be greater than the value of the house.

This kind of debt, on an appreciating asset, that provides a key functional purpose (shelter), is considered good debt. However, it can still be structured poorly which can result in paying much more in interest than is necessary. That extra $100,000 frittered away on a 30 year home loan could have made a significant difference to your retirement. For this reason, it still needs to be well managed.

Student loans can also be seen as good debt. In New Zealand we have the privilege of interest free student loans, and a quality education can have a significant impact on our future happiness, job security and earning potential. These are all fantastic reasons to invest. However, if future earning potential is a reason for taking on this debt it’s best to first investigate what the job market is like in your chosen career path. Perhaps that degree in Instagram Influencer Marketing won’t quite deliver. When studying, it’s not just the cost of the studying that you’re incurring, it’s the opportunity cost, or lost income from not working while studying - unless you can juggle both, then all power to you!

The Bad

But about that car loan… ok maybe you need a car for your job. A safe vehicle for taking the kids to footy on the weekends. Again, it comes back to good management. How much of the car were you able to pay for with savings, what is the interest rate on the loan, and what have you done to ensure if the car is damaged you can afford the repairs? Cars can drop in value, some very quickly, so they are generally a depreciating asset. Vehicle finance is often at high rates. Having a high interest loan, over say 5 years, can mean that there is a point in time where the loan is worth more than the car. That can be unsettling as you can’t just sell the car to pay the loan. General rule of thumb, try and pay for deprecating assets like cars with savings. Yes, that might mean a Corolla over a Mustang. If money is tight, don’t over-extend yourself on a car that is likely to have high maintenance and running costs. And if you do need to borrow, shop around for a low-rate option. If you have a home loan you may be able to borrow through that facility, however it’s very important to know that just because the interest rate is lower, doesn’t mean you pay less in interest! A 4% loan spread over 30 years will cost more in interest than a 10% loan over 5 years. In fact, you’ll pay over 2.5 times as much. It’s the rate at which you pay, not just the interest rate.

Top car buying tips on a budget;

• Save as much as you can towards the car to reduce any debt you need to take on.
• If you don’t have any savings, have a garage and clothing sale. I bet you can find $2,000 worth of items you can sell on TradeMe or Facebook Marketplace.
• Obviously – buy pre-owned. New cars are not worth the premium you pay when you’re on a tight budget.
• Factor in running and maintenance costs. Check what the fuel, electricity, insurance and servicing costs would be before buying. European cars can be notorious for servicing costs – not to mention when something actually breaks!
• Try and buy from a dealer. This way you get all the benefits of the Fair Trading Act, the Consumer Guarantees Act and accurate information². You can also negotiate to get an extended warranty thrown in as dealers can often get great deals on these.
• Less bells and whistles mean less things to break.
• Research the car make and model online, there are great forums that talk about common issues and reliability.

Have you ever cut up a credit card? It feels pretty good. Scissors straight through it. Some people have credit cards and they pay them off in full each month, no doubt they also have their highlighters neatly lined up in rainbow order and their socks always match. Well, credit to them (excuse the pun). Many people are not like that. We see those enticing words “available balance” and boom we’ve bought cookies on our phone while lying in bed at 1am. If you’re anything like this, and that balance is a little more often south of zero past the magic 30 day interest free period, go grab the scissors.

Some argue that credit cards have bonus points or Airpoints – we’ve looked at these and none have any real value for an average shopper. One Airpoint for every $75 spent? Cool, you can spend $350 flying return to Hamilton after you’ve spent $26,000 on the credit card. Not worth it when you add in the card fees, which are generally at least $150 for a card earning Airpoints at that rate³. It takes you spending $11,250 per year on the card just to get Airpoints to the value of your card fees.

Credit card excuse rebuttals:

• Oh but I get Airpoints! No you don’t, you pay for Airpoints. See above.
• I like to shop online! A debit card can still be used for online shopping.
• It gets me free travel insurance! No, you pay for travel insurance in the cost of the card, including for all those years you don’t travel. (Side note; you get what you pay for if ya know what we mean.)
• It’s interest free for 30 days! So is cash.
• I have a zero-fee card and I pay it in full every month. Ok Miss Matchy Socks, you can keep your card.

Pay later schemes. Bright, pretty buttons on your online shopping page, “no cost, no interest, no hassle” they proclaim. Too easy, too convenient, too free, why not? The question is not ‘why not’, it is ‘why’? Don’t have the cash to pay now? Then don’t buy it! Hold your ponies and buy it when you’ve put in the mahi and saved the dosh. These companies make money when you fail to pay, that direct debit declines, oops, forgot to transfer the money, forgot to leave some in there for that, they know you’ll forget, they’re not a charity. So just don’t. Easy.

The Ugly

As you’re drowning in debt the loan sharks circle, they smell your credit score and sink their teeth in, ripping apart your income. Car loans and credit cards have got nothing on pay day lenders. If you’ve ever been really desperate for cash, you might have done a deal with one of these back-alley agents. With interest rates up to and over 20%, this debt is the ugliest of the ugly. Perhaps you were too scared to read the documentation, if you did, you would see it can get even uglier. Administration fees, loan establishment fees, processing fees, documentation fees, days ending in ‘y’ fees… it’s a right old fee spree. Not only are the interest rates at eye-watering cringe level, but even taking on these loans can reflect poorly on your credit score. Hey if it’s done it’s done, we’re not here to debt shame. Desperate times can call for desperate measures. Once you’re debt free and making good money choices you won’t have to take this path again. So where to from here?

The Way

So we’ve got some debt, now to take some action. You’ve essentially got three levers you can pull. Earn more, spend less, and structure better. Let’s break each of these down.

Earn More

This is actually the easy one. No, don’t go to your boss and ask for more money, ask this much more powerful question – “How can I add more value?”. There may be an opportunity within your organisation, there may be some professional development training you can do, there may be some more shifts you can take on. Start by looking for ways to add more value, and in turn more value will come to you. Once you’ve skilled up, stepped up, shown up – then you can talk turkey.

More money quick tips:

• Have you been donating to registered charities? You can claim 33.33 cents as tax back for every dollar donated⁴. (This does not affect the money received by the charity).
• Out with the old before in with the new – sell off old clothes, toys, furniture before buying new ones.
• Leverage the power of the side hustle – gardening around the neighbourhood, dog walking on weekends, helping people set up their new technology or renting out that spare room. Use your skills and resources to make some extra coin – it all adds up.
• Are you getting all the benefits you may qualify for from WINZ? You don’t need to be on a benefit to get financial assistance. Check out what support you could possibly access here.
• Does your workplace have an Employee Benefits program? If so, get onboard, if not, start the conversation. It’s a great win-win employer employee arrangement (see more here).

Spend Less

Delete Uber Eats off your phone right now. It’s bad for the restaurant, the driver and your wallet. Food can be one of the quickest ways to blow a pay check (and blow your belt buckle). Healthy, nutritious, generous eating can be had with Pinterest and a decent weekly supermarket shop. Cooking can be great fun. Start with a clean, clear kitchen, grab a friend (gently), set your free Spotify playlist going, and boogie while you chop. Meals taste so much better when they’re made with love.

For the rest of your expenses, write them all down in a list. Do you really go to the gym three times a week or would you be better off running around the block and doing some YouTube yoga? Are you spending a silly amount during the silly season? Perhaps set a gift cost limit of $10 and get creative with your presents. Do you smoke or vape? Guess what we’re going to suggest here (seriously, if nothing else, this is your best get ‘rich’ quick move). Pick your favourite streaming service and cancel the rest, deal with the ads in Spotify for a free account, make coffee at home. Go through your expenses and trim all the fat you can, you will likely be surprised just how much you can save. But, it can’t all be austerity and penny-pinching, be sure to keep a little something indulgent. Maybe it’s a meal out once a week, or a family activity night at ten pin bowling. Don’t let the debt deflate you.

Structure Better

There’s no one method for debt repayment. Some like to start with the high interest, others like to consolidate, some like to tackle the lowest value first and get that buzz of knocking one off. Part of your strategy should consider what motivates you; is it achieving milestones, having a deadline, having a little fun along the way with celebratory hurrahs?

Consolidate, snowball, waterfall, whatever your debt repayment strategy looks like, get some advice and make a plan. Having the right structure in place could save you thousands, tens of thousands, heck hundreds of thousands!

A quick and dirty plan would be to start with the uglier of the debts and work your way back to the good.

Here’s our Eight Step Debt Beautification Plan:

1. Take a look at your income. Maybe you were able to get a little something coming in from a side hustle. Write down your total monthly take home income.
2. Once you’ve tightened those thoroughly inspected expenses, write down the new monthly costs. Give yourself a little wriggle room here, for those unexpected costs that pop up.
3. Minus your expenses from your income. You should have a positive number. If not, go back to steps 1 and 2 until you can make the numbers work.
4. List all your debts, with interest rates, minimum repayment, and total owing. Look for opportunities to refinance at a lower rate on any of these debts on better terms. For example, sometimes you can get 0% for 12 months on the balance transferred to a new credit card (just be very, very sure to cancel the first card!).
5. Once you’ve squeezed your debts, add up all the minimum monthly payments.
6. First of all, ensure the number from step 3 is more than the number in step 5. Is it? Phew. This is your debt blasting budget. It’s not? Back to 1 and 2 you go.
7. Ok, so you’ve got some numbers now. Set up direct debits for all your minimum repayments and then whatever is left in your debt blasting budget pour it all into the ugliest one.
8. Once you’ve tackled that, redirect to the next ugly/bad and so on. Until you get to just the good debt.

And just like you must never feed a Gremlin after midnight – you mustn’t take on more debt! This process could take 3 months, it could take 3 years. It could take longer. But whatever it takes, it’ll be worth it.

There is one other lever. As a last resort, in a worst-case scenario, declaring bankruptcy may be an option. This is a decision not to be taken lightly as it comes with some very serious and long-lasting consequences. Bankruptcy essentially absolves you of all debt, clears it at the cost of every dollar you have to your name. All assets are relinquished, and you walk away with nothing, but a ‘clean’ slate. This move will adversely affect your credit score, your ability to borrow again for the likes of a home, some job prospects, securing accounts with utilities companies and possibly your mental health. This is a decision that requires expert advice.

Debt is a behaviour, and so to really manage our money we have to manage ourselves. When income is tight and the bills roll in it can be hard to see a way out. Living within our means today might not be within our means tomorrow when the unexpected happens. That’s where an emergency fund is critical in providing you the security that, should the need occur, you can dip into that instead of diving with the sharks. Knowing you can support yourself without needing to take on debt? Now that is empowering.

Debt is a heavy burden to bear but the weight starts lifting not only when it’s all paid off; that feeling of control starts the day you make a plan.

References:

1. https://www.fsc.org.nz/bulletin_display/x_blog_code/2109.html
   
2. https://www.consumerprotection.govt.nz/help-product-service/cars/finding-the-right-car/buying-car-from-dealer/
   
3. https://www.airnewzealand.co.nz/airpoints-direct-earn-credit-card-comparison-table
   
4. https://www.ird.govt.nz/income-tax/income-tax-for-individuals/individual-tax-credits/tax-credits-for-donations