On the flip-side, this week, I paid off my credit card. After four years and several botched attempts, I am free of consumer debt. It leads me to think about the place of debt in our lives- sometimes a war, sometimes an investment. Here are some thoughts about getting debt into a balance within the rest of our lives.

Bad Debt, Good Debt

As the experience of the past few years has shown me, debt can either bolster your life or drag it down. While my credit card debt was never massive, the accumulated cost of interest, attempts to pay it off and then rebuilding it, and never succeeding to pay off the balance by the end of the month doesn’t bear thinking about.

Compare that with the debt I carry from the cost of my education. They’re probably similar figures, all told, and while my education has promoted my employment opportunities, allowed me to find supplementary income sources (and been a very manageable debt, due to the help of the government) my credit card debt has done nothing but cost me money. I know none of this is news. But I’ve been clearly reminded about the importance of clearing bad debt, in order to accrue positive ones.

Manageable Debt

A large part of our lives, as adults, is living with debt. It’s amazing to think of the amount of money we will owe should we buy a house, hundreds of thousands of dollars. The key is balance, living with a manageable level of debt. I would argue that credit card debt is never manageable. If you’re not paying it off at the end of every month, it’s time to haul over your finances until you’re able to clear your balance on a monthly basis. Otherwise, lose the card.

Debt-to-income ratios become a catch-cry around the time you’re looking for a loan, but it’s worthwhile thinking about in everyday life. Experts suggest lenders like the look of a debt-to-income ratio of about 36%, with no more than 28% of that heading towards your mortgage. 37- 40% is considered the upper limits of a debt-to-income ratio. 41-50% is in the danger zone of debt. If you find yourself here, seek help in readjusting your financial picture and getting back into the right end of the spectrum.

Calculating your debt-to-income ratio is easy. Just total up all the money you spend every month servicing your debts- mortgages, car loans, credit card payments, even home insurance- and divide it by your income. Obviously, the end goal for a lot of people is to be heading as close to 0% as humanely possible. For some people, that’s their number one priority. That might mean downsizing to a house they can afford to buy outright or living without any form of plastic. For most people, debt is a necessary part of their lives. That doesn’t mean it has to be overwhelming. Work out your debt-to-income ratio and then start making the necessary changes in your life that can help improve the numbers.

Credit Rating

Every one has a credit rating, and it’s important that we make changes to our spending behaviours to improve ours, especially if it currently reflects some previous errors in judgement. What does that mean? Often it means continuing to use some credit, to build up a track record of being someone who can deal with credit responsibly, as opposed to someone who binges and then diets on the stuff. That can be a real challenge for people, such as myself, who struggle with using credit responsibly but it’s a change that should be made if possible. It doesn’t have to be a massive credit bill every month, just enough to show a positive record on your rating. Pay all your phone bills the day they come in, and start paying off any debts you are still carrying.

The Three C’s

One lending expert suggested that the traditional banker’s criteria for a positive approval (a tick for the AAA citizens) rested on the the three C’s; capacity, character and collateral. Of course, it’s not completely cut and dried, but it’s worthwhile to think about when aiming to improve your rating. Capacity is about how you intend to pay back the loan. Generally it’s at a fixed rate over a period of years, though sometimes it can be as a bulk repayment after a certain time period has elapsed. Collateral is any additional security you can provide to insure the loan. Often, that means your first home. If you have that, and a steady job, you should be seen as a relatively good bet by lenders. If you don’t have either, then character tends to rear it’s ugly head. Character generally comes down to the nuts and bolts of a credit rating, although there are things that can show your character beyond calculations. You can add an optional explanation to your credit report, to explain further the occurrences it contains and how your behaviours have changed. Every lender has different criteria so don’t despair if one turns you down.

Extremely Strong

An AAA rating means an obligor has an extremely strong capacity to meet their financial commitments. So, before making any big decisions, put yourself in an extremely strong position. Get together an emergency fund and a savings account (with some money in it). Pay down your debt and reduce your expenditure. It’s also important to remember that, while it may take a long time (it took Australia 17 years), not having an AAA rating isn’t the end of the world. Great finances, finances of the AAA class, can be worked towards and regained.

Pros

Of course, there are a lot of reasons this approach appeals to me. With my financial personality, I tend to work best at specific goals when I can concentrate on them fully. I also tend to lose motivation, so it’s better to see big rewards. On top of everything else, it will save me money with interest and is only a matter of months before I will be able to live without debt for the first time in months.

Cons

I’ve been here a couple of times before. This point- where I’ve started to make inroads into the debt but am still a couple of months away from being on top of it- is not a wholly new one. And the past couple of times I’ve gotten to this point, I’ve managed to build up the debt again until I hit my credit card limit. Clearly it’s about my spending personality, and my inability to deal comfortably with credit. Credit is a coping mechanism in times of financial distress, and I recognise that about myself. So, is the debt-knock-off more like a crash diet than a sensible financial decision?

Behavioural Change

The most important thing, more than the numbers going down, is that I can permanently change how I use credit and deal with debt so as to avoid getting into this place again. There’s no point paying off the card only to build up the debt again. I’ve made a couple of changes to my behaviours- I’ve invested in an emergency fund to avert situations of financial distress, I’ve cut down on my style of living and have learnt to live within a budget. Once the card is paid off, I intend to keep it and use it sparingly in order to start improving my credit rating.

The Knock-Off

Trying to get rid of debt all in one go is not something I’ve ever seen suggested by personal finance writers. But I view the next couple of months as a rare opportunity- a space in my life where the financial demands of my small business are minimal, before I have major expenditure areas like a mortgage and car. Beyond anything, I feel ready to get the bane of bad consumer debt out of my life. I’ll keep you posted.

This solves nothing and often leaves people confused as to the multitude of reasons as to why they may have a tarnished credit report.

Here are the facts you need to know about your credit report to ascertain how you can fix them and what caused the bad credit rating.

Before a credit default can be listed on your credit file

The law states that you must be informed in writing by your credit provider before they place a credit default on your credit report. This means they actually have to send you a proper letter containing the reason and why they intend to put a default on your notice.

Often people will claim they never received the letter, though this is a catch 22. Often people change addresses and in turn do not receive their mail. This can be why the people begin to default as is, let alone receive a letter of warning. Keep your address details current with all credit providers to ensure constant contact can never be broken.

How do I repair my bad credit rating on my credit file?

You have a few options when it comes to attempting to repair your credit report.

If you believe the default on your credit history is incorrect, you are able to request a copy of your credit file from a credit history provider (listed below shortly) and ask them to request further information about the default from the original credit lender. From there you will be able to dispute the default with the person who gave it to you, requiring that you provide proof you either paid the debt or that a mistake was made on the credit lenders side.

If the credit default is proved to be incorrect, it will be wiped from your file and no history of your bad credit rating will remain.

How do I perform a credit check?

Firstly, you are entitled to access your credit report for FREE. There are two main credit reporting agencies in Australia, both of which attempt to charge you a small fee to expedite the processing of your credit report. This is a fee to hurry the process, when actually there is a FREE version available it just takes longer to be delivered (10 working days).

The two main providers are:

Veda Advantage

Veda Advantage requires that you provide an application in writing accompanied by photo ID documentation. Alternatively you can pay to have the credit report delivered sooner for $36.35.

www.vedaadvantage.com.au or www.mycreditfile.com.au

Dun & Bradstreet

Allows you to also acquire your credit report online within 10 working days, though charges $30 for a fast access to your credit report.

www.dnbcreditreport.com.au or www.dnb.com.au

What does my credit report contain?

It provides you with details around who has accessed your credit file (such as any lenders or telcos), any bad credit defaults you have along with details around your identification, bankruptcy claims, summonses, overdue payments and any judgements made against you in the past.

Every time you apply for a credit card online or otherwise, the bank will look up your file. Regardless of whether you go ahead with the card or not, it will remain on your file that the bank looked at you. This can make it difficult what applying for a loan later as they will question the multiple look ups and request further information in the concern that other banks rejected you for some reason.

Does a late video rental effect your credit rating?

The answer is a firm no. Contrary to what people believe, a late video return doesn’t affect your credit file. Only registered credit providers are able to put forward default claims against your files. This means banks, lenders, telcos, etc. A phone bill that is over 2 months late can affect your rating also.

Not paying rent will not affect your credit rating either –your landlord isn’t a registered credit provider so in turn there is no possibility for a bad credit rating.

How can I protect my credit history?

Check it regularly. Request a credit check from one of the providers above for free every single year. You never know what might make its way onto your credit report so the sooner you can disprove it the better.

Who is able to access my credit report?

People who can access your credit file must be registered credit providers. This could mean banks, telcos, mortgage insurance agencies and of course the police.

You should be advised before someone looks at your credit report, though this is often done in the small print of the disclaimer on any application.

However, the fact remains – debt can work both for you and against you. There are two kinds of debts, good debt as we call it is used to grow your net worth and hopefully make you money through investments and purchasing items that will appreciate in value. Bad debt is money spent on items that do not appreciate, instead losing value – like a new TV for instance.

Bad debt is often referred to as consumer debt, or consumer credit. It refers to the mindset of a consumer, wanting to spend money on items now regardless of whether their situation will allow it. This means that our impulse buying tendencies can be fulfilled via the pesky like piece of plastic we call a credit card.

Good debt however is smart debt (when used wisely). If you were told that an antique was worth $5000 but you found it for $2000, purchasing that item on credit isn’t such a bad thing if you believe you can in turn sell it for $5000 and recover a profit of $3000. It gives you access to money making investments that would otherwise be unattainable.

Before I go on, I need to clarify that good and bad debt decisions are not black and white. A good decision can be a bad one if not properly researched.

The three areas to use good debt

Direct investments such as shares, property, antiques, art work can all stand to make you a return. They too are not immune for losing you money, though they often are labelled as the stand out performer of how you can make more money.

Investing in your own business is also classified as a good debt as it has the potential to be used to in turn make you more money. It can be used to expand or juggle cash flow to grow your stockpile of money.

Education in yourself is also a good debt. Learning new trades, techniques and theories have the ability to grow your education and in turn your potential to earn. With more knowledge comes more power to earn.

The rule to remember about good and bad debt

If you are going to use debt to fund something, consider whether it is a good or bad debt. If the item is going to appreciate in value and one day be worth more – it is a good debt.

If the item you want is simply going to lose value and fulfil a brief moment of temporary happiness, it is likely a bad debt.

This isn’t to say we cannot ever buy a TV, though just consider whether you should have saved for it instead or perhaps whether you really need the top of the line when you are likely going to replace it in 3-5 years anyway.

Understanding the true purpose of debt means you are now 2 steps ahead of the next consumer.

Electric Razors

I probably spend five dollars a week on razor blades, and men would probably have to spend even more. Buying an electric razor may not give you a super clean shave, but it will save money. Over a year, that’s $260 extra dollars towards your debt repayments.

Fitness Membership

Do a cost-analysis. If you’re not using the gym more than a couple of times a week, the membership is costing you money. Cancel it and start going for walks instead. Or spend a couple of dollars on going to the pool. My membership is cheap, at seventy dollars, so you’re looking at an extra $840 a year.

Food You Don’t Eat

Get smart about your own habits. Australians throw away $5 billion a year in food, which is obscene. Get half a dozen eggs, break off the amount of bananas you actually want. Go to a deli, and weigh out the right amount of cheese and cold meats. Work out how much you are saving and transfer it across immediately onto your card.

ATM Fees

Instant gratification has done terrible things for our wallets. Yes, you might have to walk a couple of extra blocks or get out extra money, but the fees on withdrawing from another bank’s ATM is just dead money. If you do it once a week, you’re looking at saving $130 a year.

The Paper

I love the Saturday morning paper, but tough calls need to be made when you’re paying off credit cards. It can be something you reintroduce once you’re rid of your debt, but until then, reading the paper online will just have to do. If you buy the paper three times a week, you’ll stand to save around $190 a year.

The Tip

Working in hospitality changes how you feel about tipping, sometimes it’s as much about the compliment as it is about the money. Which is why, when the service is bad, there is no way I would leave a tip. I tip when the service has been good, not as a default.

Pick Up

You’ve spoilt yourself and decide to get takeaway. Save ten to fifteen dollars every time by picking up the pizza, not getting it delivered. Sure that might only be $75 a year, but $75 over a minimum repayment will make it’s presence felt as you repay your debt.

While we wait to hear whether all lenders have passed on the full rate cut – we figured it would be timely to look at a few ways you can buckle down and focus on repaying our home loans as fast as possible.

Here are some thoughts on how an interest rate cut can benefit your repayment plans.

What the rate cut means in dollars per month?

On a loan of around $300,000 – an average saving of $49 is made. It doesn’t sound like a whole lot of money, though if you pay that extra $49 per month onto your laon – you can save around $13K in interest and shave 1 year off your mortgage.

How can you use this rate cut to your advantage?

While some will opt to take the extra $49 cash in hand per month – the smart people will continue to let it be deposited onto their mortgage. Like we showed above, it shaves a hell of a lot of interest and time off your mortgage.

In fact, now is the time to pay even more towards your home loan. Why not stretch yourself to pay not only that $49 but an extra $50 per month on top of that? This would take you to a total of $99 a month and save you over $26K in interest and shave an extra 2 years off your mortgage. See our article on lump sum repayments to understand further.

Another thought is to scrap your savings account and start to use your mortgage redraw facility to host your savings. This saves you a tonne of interest and is tax free, unlike that of a normal high interest account. Although you don’t earn interest, you actually do one better – save interest that will otherwise accrue and cost you a fortune over the life of your loan.

Rates will likely never get this low again

So you know what that means? It means stop putting off your plans to repay your mortgage. Get disciplined and utilise these low rates to blast your mortgage. When interest rates are down, your interest charges are smaller – that means you can use every second of this rate cut to add all spare money to your loan and reduce the term significantly.

Maybe it’s time to hunt down a better deal?

If your lender doesn’t pass on the rate cut – take 5 minutes to explore your options with other lenders. It might be time to switch banks or lenders and find a better deal.

It’s such a negative word that many people try and avoid the concept at all costs. This guide will look at what it means to become bankrupt and what happens when you declare bankruptcy. There are also a few options you can take before getting to this final stage.

What is bankruptcy exactly?

Bankrupt is the term given to someone who has filed for bankruptcy because they are unable to repay their debts.

Declaring bankruptcy is normally done due to the consumer not being able to service their debts. Once you file for bankruptcy, your debts are removed. The catch however is you will then be legally declared bankrupt and have a record on your credit history stating so.

This means it will be hard if not impossible to receive a loan in the future.

Difference between bankruptcy and insolvency

An individual can declare bankruptcy, though a business must go into what is called liquidation or often referred to as administration.

People often misuse these words so figured it would be worthwhile correcting here.

What is the process of going bankrupt?

An individual can declare themselves bankrupt by lodging a petition with the Insolvency and Trustee Service Australia – known as ITSA. A minimum debt of $5,000 is require before filing for bankruptcy, though I am guessing most people who file for this are normally in a lot more debt than this.

You are made to list you assets and liabilities. A bankruptcy trustee is then appointed to help you close all debts – their job is to notify all lenders that you are now bankrupt and to do the admin of shutting down your debts.

Once you are bankrupt you are also made to adhere to some strict rules, such as; not travelling overseas without permission, detail all assets and more.

How long does it state bankruptcy on your credit report?

Depending on the company, your credit report will state ‘discharged bankrupt’ for at least seven years – after that time, it is said that the note will be removed and in turn you are able to more easily lend again (though hoping this time you have learnt from your mistakes).

Alternatives to going bankrupt

There are two other main options to consider before taking the final step of bankruptcy.

Firstly you have the ability to negotiate a debt agreement with your credit provider. This means asking them to set forward a plan to help you pay the debt off. Sometimes people are given lenience and have their interest removed or a less sum agreed on to pay off.

There are professional debt agreement agencies that can do this on your behalf but beware their fees. Often there are companies that prey on the vulnerable and in turn cost them more money in the long term for a short spell of calm.

Alternatively you can have a personal insolvency agreement put in place.

It is wise to note that all three of these methods will impact your credit rating so it is very important you spend a lot of time considering your options before agreeing to anything.

For more information, feel free to vist the Government website here.

E.g. you might sell your car as you know longer need it. If you receive $5,000 – put it straight into your account and then continue contributing to the account for another 2-3 months. Works very well to prove your dedication.

What assets can you sell to boost your genuine savings?

When I was applying for my loan, I sold my pride and joy (a car of the faster variety). After that, I used the equity I had paid off in the car price to put directly into my savings account.

I then went on to sell a whole heap of furniture and unused household items. This included my Playstation that came with my TV and furniture I would no longer use if I got approved and bought my own house. This helped me save a bunch of extra dollars easily that contributed to my savings account and proof of repayment ability.

What if your home loan supplier doesn’t accept your lump sum deposits as genuine savings?

Firstly proove to them that the car or other equipment was purchased via a loan also. A loan you religously serviced and always paid in full. This shows dedication and an understanding of the commitment that comes with a home loan.

From there, if your potential future home loan provider is still not content that the asset lump sums are proof of genuine savings, ask them to check with their manager as otherwise you will have to take your business to another provider.

This upfront questioning will make most home loan lenders squablle for your business and ensure they give you a deal that gets you over the line.

Some lenders will only want to see after tax salary payments directly into a savings account, though some more contemporary lenders will allow you to demonstrate genuine savings in more creative ways. Inspiration was from Kristy Sheppard, spokesperson for Mortgage Choice.

Rental payments as genuine savings

If you are currently renting, you will likely be paying regular and set amounts of rent. This can act as proof of genuine savings with the right lender. Ask around the different home loan lenders whether this can be used as demonstrated earnings as it can greatly speed up the process of approval.

Some of the more traditional banks will not count this, though we see this as further evidence of your ability to service a loan so definitely recommend asking whether this can be taken into account. It has worked for many people I know who were struggling to boost their credentials as a worthy candidate for getting a home loan.

What if your home loan lender doesn’t accept rental payments?

Ask them to reconsider or you will have to investigate taking your business elsewhere. As we have written before, those that dont ask the awkward questions will inevitably lose out.

Competition is fierce and unless you have a bad credit history, a simple request will start the ball rolling on this with just about all home loan lenders.