Massive Increase in Personal Bankruptcies, Debt Remains High, More Canadians At Risk
Swimmers, Treaders, and Sinkers
The number of consumer bankruptcies and consumer proposals increased by 31% in Canada in 2009, after growing by over 14% in 2008. We have identified three groups of debtors that have, or will, contribute to continued high personal insolvency rates: Swimmers (staying afloat, for now), Treaders (sinking fast) and Sinkers (who have already filed bankruptcy, or are at risk to do so). We explore the implications of high debt, and the recession, on personal insolvency rates in Canada. Why did personal insolvencies grow at such an alarming rate in 2009?
Obviously the recession has caused great financial hardship. As the unemployment rate increases, so too does the growth in personal insolvency filings. The unemployment rate in Ontario rose through the first half of 2009, peaking at 9.5% in May, so the growth in consumer filings is not surprising. (In Canada, the unemployment rate rose from 6.1% to 8.3% during 2009). However, high unemployment is only one reason for the high bankruptcy rates in 2009.
Canadians continue to borrow at record rates, and in 2009 household credit per person reached a record level of over $40,000. After five consecutive years of double digit growth, the rate of growth for household debt finally slowed to a comparatively low growth rate of 7.8%. However, given the tightening of credit markets and the continuing recession, growth in debt of 7.8% is still a worry for the Canadian consumer, and no doubt contributed to the growth in insolvencies.
Growth in credit card debt has slowed steadily since the recession began in January, 2008, which is consistent with a decline in consumer spending. Growth in residential mortgages has also slowed, reflecting slowing housing sales (although growth in residential mortgages remains high at 7.7%). Line of credit growth continued to grow during the recession, until finally beginning to decline in the last few months of 2009. Growth in Personal Loan Plans (PLPs, or fixed term installment loans) grew moderately during the recession, and are now remaining steady.
While household credit per person grew by 6.4% in 2009, personal disposable income grew by only 0.6% in the first nine months of 2009. This means that, by the end of the third quarter of 2009, Canadians were carrying household debt of 140.8% of their personal disposable income, the highest level in history. This means that for every dollar a Canadian earns, they have $1.41 in debt. Two years ago Canadians carried $1.28 in debt for each dollar earned.
This is a worrisome development for all Canadians carrying debt, because it's not only the level of debt that is a problem, but the cost of carrying the debt. While consumer debt has continued to increase, consumers have benefited from historically low interest rates. 
Unfortunately, low interest rates mean Canadians have continued to borrow, leading to record levels of debt. As long as interest rates remain low this may not be a problem, but if interest rates increase, Canadians will be unable to service their debt.
The most interesting statistic in 2009 was the rapid decrease in the number of personal bankruptcies starting in October, 2009. This may appear to be good news, and may indicate that the recession is ending. However, a more detailed analysis reveals that while personal bankruptcies decreased in the last quarter, consumer proposals continued to increase. Why would one increase while the other decreases?
On September 18, 2009 new bankruptcy rules came into force, increasing the cost and length of a bankruptcy for bankrupts with surplus income. The debt limit for eligibility to file a consumer proposal was increased, increasing the attractiveness of a consumer proposal as a debt management option. As a result, there was a spike in bankruptcy filings in the two weeks prior to September 18, as debtors rushed to file bankruptcy to take advantage of the old rules. After September 18 the number of bankruptcies filed dropped, while consumer proposal filings continued to increase.
We project that in 2010 the number of bankruptcy filings will increase by a small amount, but the number of consumer proposals filed will increase substantially, leading to a historically high percentage of consumer proposals filed in 2010.
In 2010 we anticipate the continuation of three groups of debtors:
The Swimmers have not yet suffered a job loss or income reduction, so they are still borrowing at an alarming rate. They are at risk, but may be oblivious to it. They are swimming happily along, but if a wave hits (like higher interest rates) they could be in trouble. While low interest rates and stable incomes allow them to service their debts now, any change in their personal circumstances (like job loss) or an increase in interest rates put them at risk. They are risk takers now (although they may not realize the risk they are taking), and provided their circumstances don't change, they will be able to continue swimming forward.
The Water Treaders are debtors who have lost their jobs, or experienced a significant reduction in their income during the recession, but they still have access to credit, which they are using to survive. Each month is a struggle, as they tread water, trying to satisfy their creditors. They are potential risk debtors, and are at risk if interest rates increase, or if their incomes do not improve.
Finally, the Sinkers have already experienced a critical event: job loss, reduced hours at work, or perhaps a divorce. They can no longer tread water. The unexpected has already happened, and they have more debt than they can handle. They have already declared bankruptcy, contributing to the increasing bankruptcy rate in 2009, or they are at risk to declare bankruptcy in 2010.
The message is clear: excessive personal debt is a ticking time bomb, and unless Canadians take steps to deal with their debt, an increase in interest rates or a further reduction in employment will lead to a continued trend of higher personal insolvencies.
For many debtors this is the first time in their lives they have experienced debt problems, and they don't know where to turn for advice. They are embarrassed to talk to family or friends. Unfortunately many debtors are now turning to unscrupulous debt consultants, who charge a fee and then simply refer the debtor to a bankruptcy trustee. We strongly urge debtors to investigate their advisors before paying anything. Confirm that they are licensed by the federal government, or a provincial agency. At Hoyes, Michalos & Associates we do NOT charge any up-front fees; no reputable trustee charges an up front fee. More information is available in this article on Debt Consultant Scams.
For more information on personal bankruptcy statistics for 2009 see our article bankruptcy statistics for 2009 and 2008, with detailed personal bankruptcy statistics for major cities in Ontario.