Monday, 27 September 2010

Keeping tabs on your household debt

Keeping tabs on your household debt
Tags: BNM | DGP | Oscar Wealth Advisory Sdn Bhd | Residential mortgages

Written by Lim Siew May
Thursday, 23 September 2010 11:12


Bank Negara Malaysia’s (BNM) recent proposals to reduce loan-to-value ratio for residential mortgages, being stricter on the eligibility and number of credit cards owned, as well as reducing the limit of personal loans suggests that our nation’s household debt level may need a reality check. As at mid-2010, household debt is around 76% to 77% of our GDP, says a recent Citi Investment Research and Analysis (CIRA) report. The figure is reported to average around 67% from 2005 to 2008.

In this modern life, everyone is looking to enjoy an enhanced lifestyle, notes Sean Lee, Group CEO of Oscar Wealth Advisory Sdn Bhd. One common mistake people make now is to own something that they “want”, and not what they “need”, added Lee.

KC Lau, author of Top Money Tips for Malaysians, says that most people only realise that they have gotten into unbearable debts when the situation becomes too severe. “If several loan instalments have been defaulted for three months and credit cards are maxed out, it is quite late to look into the matters at this stage,” he said.

How do you keep tabs on your household debt? There are a few formulas to help you assess if you’re borrowing within your means, says financial practitioners.

According to chartered financial consultant Adrian Ho, as a rule of thumb, a healthy debt-to-asset ratio is one that does not exceed 50%. “Half of whatever we have (assets) should be funded by our own money, while the other half, may be funded by ‘other people’s money’ (debts),” he says. In other words, if you decide to purchase a car, you should put down 50% of our own money and take out a loan for the remaining balance. Better still, buy it fully in cash if you can afford to, he added.

“If you start buying our home, cars, furniture and household appliances and all other gadgets and gizmos under the 10/90 formula or Zero-Percent Instalment Schemes, it may spell trouble,” he said.

Another method is to look at your debt-to-income (DTI) ratio, which shows how high your debt is compared to your income, says Lee. “A low DTI ratio means you don’t spend much of your income paying debts.

Meanwhile, a high DTI ratio means most of your income is put towards paying off your debt, leaving you without very little to spend or save.”

Lee offered a scenario: Assuming Alex’s household monthly income amounts to RM4,000, while his monthly household debt payment amounts to RM1,800. Going by the formula of DTI ratio, one should divide RM1,800 by RM4,000, and then multiply it by 100 to come up with a percentage. In Alex’s case, his DTI ratio is 45%, which indicates potential financial trouble, Lee pointed out. “35% or less is the healthiest debt load for the majority of people,” said Lee. “50% or more is a dangerous ratio where one should be aggressively paying off your debts or even restructuring your debts.”

One way to keep your household debt under control is to pare down your debt by making extra income. “Consider doing some freelance work that suit you such as writing, teaching, selling property, insurance selling and even doing Internet business,” said Lee, adding that one can also sell unused or surplus household goods in exchange for some cash. “Learn how to invest in stocks, unit trust and alternative funds to overcome high interest loans,” he pointed out. “But, you should first make sure that you have a good understanding of the risks involved.”

In Lau’s view, one should have a default set of criteria to deal with debt problems. This would include not buying stuff on installment plans (with the exception of big ticket items like cars and properties), not stopping at the minimum required amount for your credit card bill, and making purchases on cash terms only, he said.

Meanwhile, Ho summed up his debt management tips in the acronym SMART “Stay focused on your needs not wants. Manage your cash flows based on your needs,” he says.

“Ask yourself before buying anything whether you really need it. Restructure your debts to achieve healthy ratio. Think “debt-free” and you’d achieve it someday,” he concluded.


This article appeared on the Personal Finance page, The Edge Financial Daily, September 23, 2010.

Keeping tabs on your household debt

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