Debt Advice On How To Pay Off Debt
Today I talk with Leigh Taylor, Trustee in Bankruptcy and President of LC Taylor in Winnipeg and Northwestern Ontario. We discuss smart ways to pay off debt, including whether you should cash in your RRSP, co-sign a loan and when to consolidate your debts. Leigh also weighs in on whether it's morally wrong to file a bankruptcy or consumer proposal.
Should you cash in your RRSP to pay off debt?
I ask Leigh this question and based on his experience in the industry, his answer is that it is not a good idea to cash in an RRSP for three main reasons:
- RRSPs are generally exempt in bankruptcy (in Ontario, the only amount that can be seized for the benefit of your creditors is any money that has been added in the last year prior to bankruptcy).
- RRSPs are designed for long-term financial goals. You set this money aside for use in retirement and if you dip into that savings, it could impact your finances in the future.
- As soon as you cash in an RRSP, it is taxed. The money that you get out of your RRSP is considered taxable income and could put you into a higher tax bracket; so at the end of the year, you're left with a big tax bill.
As Leigh points out, instead of solving a problem, you've replaced one debt with another and haven't really solved anything at all.
Is co-signing a loan ever a good idea?
It is very common that parents, friends or family will co-sign a loan believing that the person can pay that loan back. Leigh explains that cosigning actually means that a financial institution is saying that you're a credit risk and they need someone to guarantee that you will pay them back. As co-signer, you're agreeing to pay the loan back if that person can't. A common misconception is that a co-signed loan equates to vouching for someone based on their character - like a reference for a job interview. However, Leigh points out that although that person may have the best intentions, "financial traumas" happen every day and we can't predict when illness, marital breakdown, or unemployment could hit. Even a person with the best character has a hard time carrying on after major financial changes strike. Leigh's message to those considering co-signing a loan is that,
if you can't afford to loan them the money yourself, then you probably shouldn't be doing it.
Moreover, if the person that you co-signed for does get into financial difficulty and decides to file bankruptcy, it does not clear your name as co-signer for that debt and you are still responsible to pay it. Leigh puts this into perspective stating that,
...instead of going bankrupt on a bank or financial institution of some sort, you're going bankrupt on your mother, you know, who loves you dearly and only has a house and a very small pension to live on. And suddenly her future is going to be jeopardized because of your unfortunate situation.
His message is clear, co-signing a loan or having someone co-sign for you is a bad idea. It puts you in an undesirable situation if financial trouble ever does occur, and makes the co-signer vulnerable to financial hardship as well.
Is debt consolidation a smart way to pay off debt?
Leigh describes debt consolidation as a double edged sword. Yes, you pay off your debt in a more convenient way, but are you signing up to pay more in interest? Leigh warns that a debt solution needs to make sense and solve the problem. Combining your debts into one monthly payment may seem to alleviate part of the problem, but a lender still views you as a high risk and that ultimately means high interest. When considering debt consolidation, Leigh explains that it's spending habits that people need to change before they can make the decision to consolidate their debt; otherwise, you'll be left with a consolidation loan with high interest as well as new credit card debts, all because you fell back into a spending routine.
Is dealing with debt through bankruptcy morally wrong?
In our Let's Get Started segment of the show I ask Leigh whether filing bankruptcy or a consumer proposal makes you a bad person. His answer was, no; honest hard working people fall on tough times everyday due to illness, job loss, marital breakdown and good intentions. According to Leigh,
part of the problem is all of our mothers in this country have taught us when we were very young that if you borrow money, you pay it back. And that seems like a pretty solid lesson to learn. The thing our mothers didn't teach us though, is what do you do if you can't?
Whether you know it or not, Leigh and I agree that it's likely that you know someone who has filed a bankruptcy or consumer proposal (they just don't advertise it). In fact, in 2014 approximately 118,000 Canadians filed a bankruptcy or consumer proposal, and in 2008 that number was closer to 150,000.
When financial trouble starts, making a change and seeking help are smart ways to pay off debt. Although consumer credit seems to be the enemy here, Leigh points out that it runs our economy, and that when handled wisely, it can be a tool to help us get the things we need.
Read the full podcast transcript here for more information.