We’ve all heard the phrase “don’t put your all your eggs in one basket.” But what does it really mean? In the context of finances, and debt in particular, it means don’t rely on only one type of debt just the same as it means don’t put all your RRSP into crypto currency.
In today’s world, debt is part of everyday life. A credit card has become as common as having a cellphone. But we need to keep in mind when we have debt, there are different types of debt and each debt is suitable for different situations. For example, a mortgage is naturally used to support the purchase of your home. But using the mortgage to fund credit card debt or the purchase of a new car would be the wrong use. Here are some tips on different types of debt and where they are best used.
A credit card is useful for purchases where you want to avoid carrying cash or in order to obtain benefits the card may offer such as points or cash rebates. As a rule, purchases on the card should be kept to a level where you can pay off the balance when the statement comes in. This avoids very high interest (e.g. 24.99 percent) that comes with carrying a balance on the card. Problems will occur if you are consistently carrying a balance near the top of the card’s limit or are using one credit card to pay another.
A line of credit is best used for larger purchases where the balance would be paid off over a period of time. An example would be home renovations. A line of credit will usually carry a lower interest than a credit card but higher than a mortgage (e.g. 5 percent). If you plan to pay off the line of credit within a reasonable period such as 1-2 years, then it could be a cost-effective way to make larger purchases. The monthly statement sent by the bank should give an indication of how long it will take to pay it off based upon the payments you are making. If you are only able to make the minimum payments or interest only, then it could take 10 years or more to pay it off. If so, then it is time to sit down and plan how to pay it down faster.
Here are some types of debt that should NOT be in your basket of debt eggs:
A payday loan carries interest rates as high as 50 percent. While a payday loan is meant to cover short term emergencies, it is also an indication that you need to re-evaluate your budget to avoid emergency debt.
A deferral loan is commonly used by furniture and appliance stores who want you to buy now and pay later. But if you are unable to pay later, there will be a hefty interest charge of 25-30 percent. In many ways, the finance company that backs the purchase would be more than happy if you can’t pay it on time. The short rule here is if you can’t pay for it now, then buy later.
If you find your basket of debt eggs is out of control, then you should consult a Licensed Insolvency Trustee (“LIT”). An LIT can assist with regaining control of your debt basket. Your hard-earned money should be used for what it is intended — to maintain your household and help you prepare for the future.
CIRP, LIT, CPA, CA
Senior Vice-President
Servicing: Burlington (Burloak), Mississauga (Square One Mall), Brampton (Mount Pleasant), Brantford, Caledonia, Simcoe, Milton, Mississauga (Winston Churchill), Brampton (Rutherford South), Mississauga (Streetsville)
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