?People seem to miss the fact that debt is a liability and is not money that is yours but which you owe?

Amitoj Sethi, director, Deals4Loans, speaks with Abhay Rao of The Financial Express about debt management, financial prudence and making the right debt-related choices.

What is the key indicator that one has taken on too much debt?

Debt management is a broad topic and while almost 80% of the population uses debt for some purpose or the other, few people understand the intricacies involved with it. While there are many signs that serve as a warning to people who have accumulated too much debt, the thumb rule followed is, that one should not be paying more than 40% of their net take home to service debt. If it is over 40%, then you are definitely in trouble. However, the minute one comes between the 35-40% range, they should hear the warning bells go off.

How does one ideally combat a situation of too much debt?

When a person acquires too much debt, more than they can service, without cutting into daily costs, then they must look for alternative cash inflows. If none are available, one will soon find themselves up against a stone wall with mounting debts and tremendous pressure. One solution offered to people who have too much debt is to pay off their higher cost debts and move to lower cost debts. Therefore, sometimes it is wiser to take a personal loan, which is at 18-24% interest and pay off your credit card dues that have been accumulating as the interest charged on them is over 36%. Another example to illustrate a smarter usage of debt is, say if you have just bought an LCD worth Rs 1 lakh and are expecting a Rs 50,000 bonus this month and have saved Rs 50,000 already for the purchase, then using a credit card is prudent. Similarly, if there is a medical emergency and one is strapped for cash not knowing when he will have enough to pay back, taking a loan is a better choice.

How do you go about selecting what debt is the best in which situation?

Debt selection is a very hard choice for most people, and we often get queries from people regarding this. However, one must realise that is also a personal choice and an important one based on the individual and his ability. I personally believe that for a short-term debt requirement, like a period of between 1-3 months, a credit card is a good option and better than a personal loan. The reason I say this, even though the credit card charges higher interest, it does not restrict ones ability to pay back as and when they can. However, in the case of a personal loan, the minimum time period to hold the loan is for12 months. Though if the loan is serviced say in 3 months itself, the 9 months balance that has been paid up earlier will cost you a 4% charge as prepayment penalty. This can make a 20% personal loan have interest rates as high as 28-29%, which at the end makes it less suitable an option.

Similarly, an example wherein a personal loan is not the best option but often used is in the case of home improvement. Say you are renovating your house, expanding it or just adding additional rooms to it and you need money you do not have yet. People generally go in for a personal loan, which can beat 24% p.a. However, if one does some research they would realise that one can also have the availability of a home improvement loan, which comes at only 12% p.a.

Are there any debt consolidation service providers in India?

Debt consolidation agencies and debt management services do not yet exist in India, though such organisations do function in many other countries. So, currently, agencies like ours try and help and advice people. Surprisingly we get almost 40-50 customers writing to us daily about various debt-related problems, loan comparisons, interest payment plans, choosing a fixed or floating rate of interest amongst others. While we do help people as best as we can, based on information they provide, we do so free of cost and without bias. During this process, one of the things that stands out is the confusion that people are facing today. They are often left with conflicting views, half knowledge of the facts and an eager beaver salesman trying to increase his own purse at the cost of yours. No once seems to provide an outside perspective on things and since we do not sell loan!s we try our best to do so.

Informally banks also help people facing debt management problems. However, one must be financially smarter this time around as while the solutions the banks provide may sometimes be the right one, at times they are nothing but a way for them to further their own cause. Especially when they give you another loan to help you pay your current outstanding, it could be nothing more than a way for a sales guy to help himself.

Given these testing times, which are important factors to keep in mind before taking on debt?

It may sound absurd that many people do not even realise they have debt mounting, which they will have to soon pay up. How much debt depends entirely on the situation the individual gets himself into and what is his income and expenses like.

Something like an EMI changes a person’s lifestyle and this is something one should come to terms with. For asking oneself after a while whether the decision to take a loan was smart or not is a waste later on. It is usually only after getting into enough trouble to find escape impossible that people start looking for help to manage their debts. The amount of proactive people who seek help and advice before debt confronts them are very few.

How has the Indian debt scenario changed over the years?

Household debt in India has increased substantially over the last few years. In fact, 10 years ago, the average age of a flat owner was 44, while now it is 36. The 10 years prior too, the average home-owner had been 44.

This sudden change that has happened in the last few years can give people some indication as to how much the overall individual debt taken by nations has increased. This only highlights the fact that people today are getting comfortable with credit. This is also alarming in many cases, as currently, more than 60% of credit card holders in India revolved their credit, paying an interest rate of over 36% p.a. People today seem to be missing the bigger picture when it comes to debt. The prudence of avoiding debt that was instilled in earlier generations prevails no longer and it does not shine out like a boulder anymore.

A lot of people, today, psychologically believe that debt cannot affect them. Incidents like farmer suicides, US debt problems and others make people see but not feel enough concern or pain to change their ways.

What is the biggest hurdle in 2008 for debt takers?

Taking loans and using credit cards come in very handy during emergency situations. A good home loan however is a good loan to take otherwise, as it is used to purchase an asset. Though the interest rates in such loans has gone up from 7% to 13%, hence say earlier you paid an EMI of Rs 15,000, you now have to pay Rs 30,000. This is the downside of the floating rate plan and has been the biggest contributor to debt management and liquidity problems this year due to people not having enough money to pay their higher EMI. The 40% of your take home salary mark is being dangerously crossed for their EMI, leaving people helpless.

What are the factors contributing to India?s increase household debt?

We are moving too fast, with consumerism leading the way. Today we do not always think before we take a loan. A common example of this is people taking loans and purchasing cars, which is a depreciating asset. One could just easily wait 2 to 3 more years and buy a car with ones own money without a loan. People today seem to miss the fact that debt is a liability and is not money that is yours but which you owe. The only ones who gain from this are the banks. Prudence today is often replaced by foolish spending of money we do not have yet. Why else would unnecessary loans taken or items swiped on our credit cards, which we do not need, be a common occurrence?

Also, people fail to calculate the savings the loan may get you to the EMI you are spending. Say you spend Rs 3,000 on travel every month and you buy a car with an EMI of Rs 3,000, plus additional fuel costs, maintenance charges and the likes, which you may have overlooked. On a proper comparison, the money saved would be less than the money spent every month by buying a car on loan and hence defeat the whole purpose of debt for a consumer.