Household Debt - Take Action Now

Did you know that between 1984 and 2009 Canadian real average household debt more than doubled? Mortgage debt accounts for most of this, and as interest rates decreased during that period, the household debt load increased. Things really took off in 2002 and we all know where things ended up in 2008 and 2009. Now, as we dust ourselves off and look around, it is important to reflect upon what we have learned, and to ask: Where is this heading?

Consumer prices rose 3.3% during the 12 month period ending in March, 2011 ñ this is the largest increase since the year that ended in September, 2008. Food, energy, gasoline and clothing are some of the items that rose in price. A higher cost of living coupled with increasing interest rates is a distinct possibility in the not-so-distant future.  Canadians need to keep up-to-date on issues that may affect financial security. 

Canadian Social Trends is published by Statistics Canada every 6 weeks. The latest edition, published April 21, 2011, contains some alarming date in the article Debt and Family Type in Canada. Surprisingly, increased household income as a result of women entering the workforce prompted more borrowing during the past 25 years. Between 1970 and 2009, real disposable household income rose by 37% and this allowed greater access to debt. There were other factors: consumerism, a hot housing market due to demand from the baby boomers, less stringent tests of creditworthiness, wild and wonderful financial products and government "hands offî policies for the financial sector. This produced the perfect environment for the "buy now, pay laterî generation and here we are, facing rising prices and on the cusp of an inevitable climb in interest rates.

Stats Can used data from the 2009 Canadian Financial Capabilities Survey to analyze the types of households that are more likely to have problems with debt. The results of the survey show that, among households with debt, the average debt level is $119,000, and younger Canadians are more likely to have debt than older Canadians. Unattached individuals carry less debt than other households, perhaps because they are less likely to own a home and carry a mortgage.

Indicators such as the debt-to-household income ratio, which rose from 93% to 148% from 1990 to 2009, are significant. Research indicates that if interest rates rise 3%, this ratio has to fall to 125-130% just to keep the interest payments on the debt stable.  In other words, pay down debt now, before interest rates rise, otherwise your payments are going to take a bigger chunk of your income.

The total debt service ratio measures the ability of a household to pay off its debt. The Bank of Canada defines a high total debt service payment to be more than 40% of pretax household income. Dual parent households with children are just as likely as households led by lone parents to have a debt service ratio of 40% or more.  This is high - most banks use 30% or less to approve mortgages.  One financial emergency can cause a household to exceed the family budget and miss payments, losing ground that is difficult to regain.

The conclusions? Family type is significant when looking at indicators such as debt to income ratio. However, households of all types struggle with debt as measured by debt-to-asset and total debt service ratios. What does this mean? No one is immune to indebtedness, and financial education should be directed at Canadians from all walks of life.

ADDITIONAL EDUCATIONAL RESOURCES: Certificate of Achievement in Personal Finance