What's Ahead For Debtors In 2015

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Posted in Debt Free In 30
Posted by J. Douglas Hoyes, CA, CPA, LIT, CIRP, CBV

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The Danger In Thinking Money Is Free

Today I talked to my business partner and the co-founder of Hoyes, Michalos & Associates, Ted Michalos.  He offered his opinions about the way things have been going and outlined several predictions for the coming year, touching on important financial topics such as the economy, unemployment, and interest rates.

Taking A Look Back

In 2008 we experienced the fallout from the credit crisis.  As a result, the number of personal bankruptcies filed in Canada hit an all time high of over 150,000 in 2009.  At the same time, the Bankruptcy and Insolvency Act (the law that governs all bankruptcies in Canada) was revised.

Ted explains that,

the government made it more expensive, more complicated, and longer for someone to find relief from their debts.

Where most bankruptcies ended in 9 months, the government changed the rules so those households earning above a certain threshold (known as surplus income) would have their bankruptcy automatically extended to 21 months. To avoid having a longer bankruptcy, many people quickly filed under the old rules, causing even more of a spike in bankruptcies in 2009.

Enter The Consumer Proposal

Ted explains that the 2009 changes to the BIA made consumer proposals much more attractive. Where we once saw three bankruptcies for every proposal, today the ratio is even, with one proposal for every bankruptcy.

the reason bankruptcies are down is because more people are taking advantage of the consumer proposal solution.

Money Is Free And Perception Is Everything

Even with the growing popularity of consumer proposals, total personal insolvency filings are way down -- almost 22% from the peak in 2009. A lot of this has to do with the economy in general, and interest rates in particular.

Ted explains that right now, people are benefiting from low interest rates. People can refinance their home, borrow money to buy a car or take out a personal line of credit and the cost is pretty low so they are able to carry more debt than they could before.

Ted's concern is that this is building a perception that money is free. Eventually interest rates will rise -- you can't have free money forever.

One area where this perception is particularly concerning is the trend towards very long term car loans. People are getting themselves into trouble based on the assumption that they can afford their payments, but just like with the subprime mortgage crisis, it's a bubble that isn't sustainable.

Let's look at an example. Bob needs a car but he can't afford to finance on a 4 or 5 year term and he definitely cannot afford to buy the car outright.  When inquiring about his options, Bob is offered an 8 year financing term at a price that he can afford.  Of course he takes the deal because the lender is offering to give him the car that he wants at a steal.

The Catch?  In 5 years Bob still owes $9000 on his car loan for a car that is now valued at $6000 and the value is only going down from there.  It takes too long to pay off enough of the loan for you to owe less than the car is worth.  Long term car loans provide the illusion of "free money" because they offer quick and seemingly affordable solutions that mask the bigger picture.

Low interest rates and the shift to lines of credit and long term car loans in recent years are reasons why Canadians are now carrying debt equivalent to 163% of their disposable income. Ted's concern is that many people are swapping lines of credit for credit card debt and extending their terms, rather than paying down debt because today at least, debt is so affordable.

Ted's Predictions For 2015

Bankruptcy numbers for 2014 have not yet been released, and won't be until March or April. However, based on personal experience from this past year, expectations are that 2014 personal insolvency levels will be similar to 2012 and 2013.

Overall 2015 will look a lot like 2014.

  • Interest rates will likely stay the same for a while but are expected to begin to increase slightly in the fall of 2015 or early 2016.
  • Unemployment may rise slightly, but not enough to affect bankruptcies just yet.
  • Bankruptcy rates will remain unchanged as well for at least the next year.

Better Understand Your Finances In 2015

While in the short term we can expect the status quo for the Canadian economy in general, for those with debts, there is a risk that they will not be able to absorb the financial cost of even a small rise in rates.

The start of a new year can be a great time to get a fresh start and make a plan for the year, especially when it comes to your finances.  Take a closer look at what kind of rates you are paying for things like your car or home and pay attention to the market to know when you may need to make smart changes.  For example, know the difference between a callable loan and a variable rate.

  • Callable: loans that can be collected at any time, with little to no notice.
  • Variable: a loan that changes with the market.

While Ted predicts that variable rates should be stable for the next 6 months, it is important to keep an eye on the markets for any increases that might be set to take place, because even a half a point increase will lead to an additional $50 a month for every $100,000 that you owe.  So if you are already stretched thin to make your monthly payments, you might want to consider your variable rate and whether you could survive financially if the rate increases even a half a point.  If you can't, Ted suggests that it might be time to lock in your rate.  He explains that by locking it in,

...you've made sure that when the rates do go up - and they are going to go up folks, there's no way to get around that - that you don't suddenly get hit in the side of the head.

Take Control Of Your Financial Future

Debt problems don't just vanish and piling on more debt is never the solution.  Don't use low interest rates as a quick fix for the situation that you might be in because they seem like "free money". Creating one debt to pay down another only creates a cycle that never seems to end.  Instead, use low interest rates as an opportunity to pay down your debt.  That way, when the rates do go up (and Ted has warned us that they WILL go up), you have created good habits. Furthermore, Ted suggests that,

...if you're carrying more debt than you can deal with, then you need to talk to somebody, a professional that can help you sort it out.

Make 2015 the year for your fresh start.  Know the numbers, make a plan, get the help you need and make it happen.

Resources Mentioned in the Show

A full transcript to podcast #18 is available here.

About J. Douglas Hoyes

Doug is our co-founder and is a Licensed Insolvency Trustee, Consumer Proposal Administrator, certified Insolvency Counsellor and Chartered Professional Accountant.

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