Personal Debt (Distress) Syndrome

Prof Vinay Dutta

Abstract: You regularly come across lots of stories, some good, enjoyable and inspiring, others
unpleasant, sad and sometimes extremely shocking when it comes to the topic of personal debt.
While debt is delightful for few; for scores of borrowers it really is a painful experience, a
nightmare. This article is an attempt to provoke you to recognize as to what constitute a good
personal debt that you can take advantage of and quiet the opposite what ultimately turns out
to be a poor, at times even awful, personal debt encounter for you.

Introduction
Simply speaking, personal debt refers to “Pledging your future income”. Putting it differently,
personal debt is the process of using future purchasing power in the present before an income has
been earned. The issue is whether all personal debt is bad and leads to unpleasantness in our lives
or debt can be strategic leading to improvement in personal wellbeing and growth?

Genesis of Personal Debt

Genesis of personal debt can be attributed to changing demographics of the society. “Save and buy
culture” is steadily and undoubtedly paving the way to “borrow and buy mentality”. Today’s
generation begins life as consumers than savers. There has been a perceptive change in attitude of
people toward personal debt. It has become a craze among Gen-Y (Gen-Y tag refers to those
growing up with increased desire for leisure) to borrow and buy. Instead of seeing debt as a villain,
Gen-Y sees debt as a tool to obtain what they want right now. Advertising too has become
instrumental in promoting the view of debt as a tool: “get what you want,” the advertisements say.
“Get it now, and pay only Rs____a month!” “Buy a subzero freezer or a plasma TV or a car with
zero down payment, make no payments for the next three months.” Ask any aspiring borrower,
especially young one about it and the typical response you often get is “what’s wrong about
borrowing”? To quote Thomas Tusser “Who goeth borrowing goeth a sorrowing.” To expand you
may add…”goeth a harrowing” as well. But is it appropriate to believe that all debt is bad? Or debt
can be leveraged for acquiring resources that enhances potential for personal growth? The table
below aptly captures the two facets of personal debt.

Good Personal Debt Debt Bad Personal Debt

(Green Debt) (Red Debt)
Delighter D Discourager
Enabler E Exploiter
Backer B Blocker
Transformational T Trapper

Good versus Bad Personal Debt

Good debt infuses earning mentality, an attitude that people benefit and get ahead based on merit.
It is commonly referred to as investment led or strategic debt. It is relatively low interest bearing
and mainly used for investing in future. It is raised to acquire productive long live assets and
characterized with opportunity to generate good returns through capital appreciation and income
generating capability. Good debt generally produces cash flows over time and is tax efficient. A
student borrowing to pay for an education, a couple taking loan to acquire residential property or
a budding entrepreneur availing loan to start business are all real life examples of good personal
debt. In contrast, bad debt is consumption led and usually people get into it owing to entitlement
mindset, a belief that they deserve something because they want it. Bad debt is mostly used to
obtain something that goes down in value and does not build any physical asset. Such assets
eventually depreciate in value (example- the car you purchased through loan is only a fraction of
that loan by the time it’s completely paid for). Bad debts usually do not produce any cash flows
rather they consume resources. Buying things like new living room furniture, a new car, eating out
frequently, borrowing on high interest bearing credit card for vacations and borrowing to maintain
life style are all examples of bad debts. But how does debt trap a person and what are its
consequences. For this you need to understand the debt trap cycle.

Debt Trap Cycle and Its’ Consequences

My problem lies in reconciling my gross habits with my net income. ---Errol Flynn

It all starts with expense exceeding income resulting in shortage of cash and borrowing to cover
the gap. Borrowing as stated above means committing future income to repay debt. If not
controlled resultant expansion of debt may lead to inability to service excessive debt (refer J
Reuben Clark’s perspective on why not to get into debt in the box “Interest never sleeps”) and you
are in debt trap. And this is what follows…Bad debt doesn’t just cost money…it sometimes also
costs life. It is discourager - a drain on mental resources. It distracts you from your daily work,
makes your family life miserable, and even causes you to think less of yourself. Not only this, you
may have difficulty in sleeping or may get drunk, resort to heavy smoking to relieve yourself off
the burden of debt. Michael Mihalik rightly pointed out that “Debt can turn a free, happy person
into a bitter human being.” Obviously all this have negative impact on your mental as well as
physical health. Thus overuse, misuse and abuse of debt may cause a situation in which a person’s
debts far exceed the resources at command to pay that debt.

"Interest never sleeps"

“It is a rule of our financial and economic life in the entire world that interest is to be paid on
borrowed money. May I say something about interest? Interest never sleeps nor sickens nor dies;
it never goes to the hospital; it works on Sundays and holidays; it never takes a vacation; it never
visits or travels; it takes no pleasure; it is never laid off work nor discharged from employment;
it never works on reduced hours; . . . Once in debt, interest is your companion every minute of
the day and night; you cannot shun it or slip away from it; you cannot dismiss it; it yields neither
to entreaties, demands, or orders, and whenever you get in its way or cross its course or fail to
meet its demands, it crushes you.”— J. Reuben Clark, namesake of the Brigham Young
University Law School

Metric for Assessing Debt

Personal debt service ratio and gearing ratio are two useful tools for capturing household debt.
Debt service ratio is expressed as the ratio of total loan repayments to total monthly income. It
shows the proportion of take home income used to repay debts. The ideal range for debt service is
less than 45% of take home salary. Gearing ratio indicates the percentage of total long term loans
to a person’s total assets. It should preferably be less than 50%. Higher debt service and gearing
ratios are warning signals indicating that you are moving towards debt trap.

Strategies to Payoff Personal Debt

“There are but two ways of paying debt: Increase of industry in raising income, increase of thrift
in laying out.”---Thomas Carlyle

Addressing debt problem should not merely be seen as a legal obligation. It, indeed, is the moral
responsibility of borrower to repay debt when due. In fact, borrowing literally means obtaining
something with intention to return it. Therefore, it makes absolute sense to pay off debt as agreed.
Some of the strategies you can endeavor to genuinely reduce, and clear debt are as given below:

 Developing personal budget to make a realistic assessment of how much money you bring
in and how much money you spend. The objective is to manage and keep an eye on your
spending patterns, identifying necessities, prioritizing wants and trimming down
discretionary expenses. Moderating expenses is practically the same as generating
additional income, akin to ad of power companies stating “energy saved is energy
generated”.
 Exploring opportunities to enhance income either through engaging in part time work or
monetizing hobbies. It will engage you gainfully and keep you away from focusing on your
debt.
 Exploring the possibility of arranging funds from relatives and friends. Remember the
proverb, “Before borrowing money from a friend, decide which you need most.”
 Approaching lenders to work out a modified payment plan to reduce payments to a more
manageable level.
 Borrowing against cash value of life insurance policy, and/ or selling investments, other
than held for retirement and contingencies, to substitute high interest bearing loans.
 Transferring balances to lower interest rate bearing credit cards.
 Borrowing against the equity* in residential property to pay off high interest bearing credit
card or personal loans. (*Home equity=Present market value of property adjusted for loan
outstanding on property).

Conclusion

Debt is a double edged sword? It is what you make of it. It can make or break your financial
fortunes. Used recklessly, it can create small financial inconveniences or completely ruin you. But
applied prudently, debt can bring prosperity and pleasure in your life.
11 signs that show you are falling into a debt trap

You may land in a debt trap without even realising it. Here are a few warning signs to note,
before it is too late.
By Narendra Nathan , ET Bureau|

For a large section of people, particularly the salaried class, debt is unavoidable. However,
borrowing irresponsibly can land you in trouble. According to an ET Wealth survey, 15% of the
respondents have an EMI outgo of more than 50% of their income. The survey was conducted in
March and had 2,042 respondents from across the country, age groups and income levels.

Surprisingly, 32% of the respondents with EMIs of more than 50% are senior citizens—people
who have fixed incomes. The survey also showed that one out of five respondents have taken
loans to repay existing loans in the past one year. Taking a loan to repay another is a classic
indicator of falling into a debt trap.

In this week’s cover story, we explore warning signs that could show whether you are headed
towards a debt trap. “Debt is not a bad thing. But you need to plan properly, so that you don’t get
into a debt trap,” says Manav Jeet, MD and CEO, Rubique, an online marketplace for financial
products.

Sudden events like a job loss, a medical emergency, etc. can force one to borrow beyond one’s
repayment capacity, says says Vinod N. Kulkarni, a financial counsellor. “Salaries getting
delayed has also become a major factor leading people into debt traps as they try to survive on
credit cards,” adds Arun Ramamurthy, Founder, Credit Sudhaar. These sudden shocks can be
avoided by maintaining a contingency reserve of around six months’ income and having
insurance.

But it is often the slow, gradual slide into a debt trap that can prove more dangerous as it goes
unnoticed till the person is neck deep in it. We point out the red flags, so you can take corrective
measures, if need be.

1. EMIs exceeding 50% of income

A lot many people fall prey to ‘easy EMIs’, ‘discounts’, and ‘sales’. Compulsive spending can
strain your finances and push you towards a debt trap. “Some or the other sale will always be on
and people who can’t control themselves often end up buying things on EMIs. Though these
standalone EMIs may not be big, when you add the various EMI obligations, you may have little
money left to spend on other things,” says Ranjit Punja, CEO, CreditMantri.

Too many EMIs to pay

If your EMI outgo exceeds 50% of your salary, it’s a big red flag
  Almost 15% of the survey respondents use more than 50% of their income to pay EMIs.
This poses a serious threat to their long-term financial well-being.
 32% of the respondents with an EMI outgo of more than 50% are senior citizens. For
retirees living on a fixed income, this is particularly high.
 While there is no fixed cut off for an acceptable EMI outgo, most experts advise that it
should be less than 50% of one’s monthly income. Most banks restrict lending to avoid a
person’s EMI outgo to go beyond the 50%. Besides fixed EMIs, you also need to account
for the repayment of soft loans, taken from friends or family. “Your EMIs and other loan
repayments should not take more than 50% of your income,” cautions Jeet.

2. Fixed expenses more than 70% of income

EMI is only a part of one’s fixed obligations. There are several other fixed expenses— rent,
society maintenance charges, kids’ school fee, etc. “Ideally, the fixed obligations-to-income ratio
(FOIR) should not be more than 50%,” says Punja.

High fixed expenses

Fixed obligations shouldn’t cross 70% of monthly income

 Close to 9% of the respondents have fixed obligations to income ratio (FOIR) of more
than 70%.
  20% of the respondents with FOIR of over 70% had annual income of less than Rs 12
lakh—not surprisingly, relatively lower income groups find it hard to save.

Ramamurthy concurs with this view: “While 50% is ideal FOIR, it may not be possible for all.
However, crossing the 70% mark is an early warning that one may be sliding into a debt trap.”
Experts insist on the 70% mark because people need at least 30% of their monthly income to
meet other expenses and save for financial goals.

3. Loan for regular expenses

If you often find yourself borrowing money to meet regular expenses, you need to set your house
in order. “If you have to borrow regularly to meet routine expenses—rent, kids’ school fees,
etc.—you may be sliding into a debt trap,” says C.S. Sudheer, CEO and Founder, IndianMoney.

Loans for regular expenses

If you often find yourself borrowing money to meet regular expenses, you need to set your house
in order. “If you have to borrow regularly to meet routine expenses—rent, kids’ school fees,
etc.—you may be sliding into a debt trap,” says C.S. Sudheer, CEO and Founder, IndianMoney.

Loans for regular needs

Borrowing money more than thrice in a year spells danger

 About 4% borrowed more than thrice over the past year.

 19% of the respondents who have borrowed at least thrice over the past year earn less
than `12 lakh a year, making them susceptible to debt traps.

Kulkarni concurs: “People fail to control their expenses will end up borrowing even for
routine expenses, hoping that they will pay it back. However, this is a bad strategy and
increases the chance of falling into a debt trap.”

4. Loan to repay a loan

Borrowing money to repay a loan, unless it is aimed at reducing one’s interest outgo— as in the
case of changing one’s home loan lender—is a worrying sign. Another worrying sign is the way
people deal with their fixed obligations.

Taking a loan to repay a loan

Borrowing to repay a loan can be a costly mistake

 Over the past year, 21% of the respondents borrowed at least once to repay a loan.
 27% of the respondents who have borrowed at least once over the past year to repay a loan
are below 30. The young need to be cautious of this dangerous practice.

“Among the fixed obligations, people usually don’t default on home loan and car loan EMIs, or
on payments like rent, school fees, etc. because of social pressures. Instead, they start using
credit card extensively and try to tide over the credit card bills by paying just the minimum due
amount,” says Ramamurthy. This is why cash withdrawals and rollover of credit card dues is
unacceptably high for a lot many people.

5. Withdrawing cash from credit card

While borrowing for regular expenses to repay loans is bad, doing that with the help of credit
card is a sure way of getting oneself into trouble. “Even if you want to borrow, decide on the
kind of debt. Using the credit card route should always be avoided,” says Jeet.

Credit cards for withdrawing cash

Shun cash withdrawals using credit cards
 Some 9% of the respondents withdrew cash from credit cards over the past year.
 14% of the respondents who used credit cards for cash withdrawal happen to be senior
citizens. At 12%, those below 30 form the next large group.

Drawing cash via credit card invites a chunky cash advance fee—2.5%-3.5% of the withdrawn
amount per month. Annually, the interest works out to be 35%-50%.

6. Not clearing credit card dues

Not clearing the credit card dues in full is a huge red flag. Our survey shows that this practice of
not paying the credit card bill in full is quite rampant. Almost 21% of the respondents have either
missed the credit card payment or rolled it over by paying the minimum due amount over the
past year.

Defaulting on credit card payments

Missing payments compromises your credit score

 Around 21% of the respondents either defaulted on payment or rolled-over their debt by
paying just the minimum due amount.
 29% of the respondents who missed at least one credit card payment over the past year earn
less than Rs 6 lakh annually.
Often people don’t realise how costly such rollovers can be. “Since the minimum amount
payable is quite low, people usually fall into this trap. The real problem of this carry forward is
the high interest rate (around 3% per month),” says Punja.

“Since the interest on credit card loans is very high, rolling it over reduces one’s repayment
capacity for other loans and, if continued, for long, it will push you into a debt trap,” says
Ramamurthy. If you have got into this rollover trap, getting out of it should be your top priority.
Postponing it will only worsen the problem.

“Treat getting out of revolving credit as your first priority and redirect all surplus towards this
end,” says Melvin Joseph, Founder, Finvin Financial Planners. You can also utilise some of your
investments, particularly, if they are not linked to specific goals, to get out of the rollover trap. If
you still cannot pay the credit card dues in full, you should get the credit card outstanding
transferred to a lower-cost loan.

7. Banks refusing loan

Our survey reveals that banks have rejected loan applications of 5.4% of the respondents. “Banks
rejecting your loan application is a dangerous sign, especially, if it is done because of the fall in
your credit score,” says Sudheer. Though the credit score ranges from 300 to 900, only scores
above 750 are considered good by most banks.

Loan rejections
Bad credit score leads to rejection of loan application

 Loan applications of 5% of the survey respondents were rejected by banks.

 22% of the respondents whose loan applications were rejected last year earn less than Rs
12 lakh. Higher rejections in this group can be attributed to their higher FOIR and
higher loan roll-overs.

Though some NBFCs lend to people with lower credit ratings, they usually charge a higher
interest rate. As a precautionary step, you should check your credit score once in a while
and make sure that you take steps to improve it. “The credit score for individuals is like the
credit rating for companies, and they should make efforts to keep it high,” says Jeet. Even senior
citizens should not ignore their credit score. “Even for retirees, the credit score is important
because they may have to take loans in the future in case of an emergency. Also, the credit score
will come into play if you choose to be a co-borrower or guarantor for, say, your children’s
loans,” says Joseph.
8. Missed utility bill payments
Missing utility bills once in a while is not a warning sign. However, if you are frequently missing
paying utility bills, you may be spending beyond your means, and it’s a red flag. It also indicates
lack of financial literacy—the fact that this will impact your credit score and may keep you away
from lowcost funding options.

Missing utility bill payments

Missing bill payments shows lack of discipline

 Some 3% of the respondents have missed payments at least thrice over the past year.
 6% of those who missed payments at least thrice last year are below 30. Youngsters should
know that this has a bearing on their credit scores.

Our survey shows 6% of those below 30 have missed paying utility bills on time at least thrice in
the past year. This shows youngsters’ lack of awareness on the role of utility bill payments in the
calculation of credit scores.

9. Borrowing based on future income

If you decide to take a loan now and aim to repay it when you get a fancy bonus later this year,
you may be in for trouble. “People always hope for the best and don’t factor in possible problems
that may emerge in the future. So, borrowing based on current salary is fine, but not on expected
bonus, increments, etc,” warns Jeet.

Betting on future income

Spending now anticipating a bonus or an increment in the future is not prudent
 Some 16% of the respondents have spent money anticipating a bonus or an increment.
 18% of the respondents who based their expenditure on expectations of a higher future
income are below 30.

People also need to distinguish between the fixed and variable components of their salaries,
when calculating the EMIs they can afford. “Consider only the fixed pay as your salary and your
EMI should not be more than 50% of this fixed pay,” says Ramamurthy.

10. Loans with rising EMIs

Many people tend to overestimate the future salary increments. Since the base is small,
increments are higher at the start of one’s career. So, assuming that you will get the similar
increments till you retire to take larger loans may not be a prudent strategy. Banks also
encourage such unhealthy habits by offering loan products where the EMIs increase with time,
usually after a gap of a few years.

Loans with rising EMIs ..

Loans with rising EMIs may harm your financial security

 About 24% of the respondents have taken loans with rising EMI feature.
 50% of the respondents with rising EMI loans fall in the 30-60 age group. Risng EMIs are
not suitable for those above 45.
As most people take floating rate home loans, they should also be ready for sudden spikes in
EMIs due to increase in interest rates. “People should factor in 20% increase in EMI due to rise
in interest rates and have some contingency funds earmarked for their loan repayment also,”
says Vineet Jain, Cofounder and CEO, Loanstreet.

11. Buying gadgets on ‘easy EMIs’

Several people tend to be impulsive shoppers, and even end up buying non-essential items on
loans. Loans from financial institutions come with ‘easy EMIs’ and many of the NBFCs are now
located within the shopping complexes selling consumer durables, making it easier for
consumers to borrow. But though these loans are floated with features like ‘easy EMIs’, they
come with high interest rates—18-25%.

Buying on ‘easy EMIs'

Buying non-essential goods by taking loans is a strict no-no

 Almost 25% of the respondents have bought electronic gadgets on EMIs.

 70% of the respondents who bought electronic goods on credit fall in the sub-Rs 12 lakh
annual income group.

EMI offers from credit cards can also be quite expensive. “People get into the problem because
most credit card companies allow one-time purchase, above a certain amount, to be converted
into an EMI. Immediate loan facilities like this can force you to stretch your finances. Due to the
‘sales’, this problem (of easy EMIs) usually gets exaggerated during festive seasons,” says Punja.

(Data analysis by Sameer Bhardwaj)

/economictimes.indiatimes.com/articleshow/68532678.cms?from=mdr&utm_source=contentofinterest&utm_medium=text&utm
_campaign=cppst
How to get out of a debt trap
Difficult though it is to get out of debt trap, there are some steps you can take to get out of
the debt mire.
By Narendra Nathan , ET Bureau| Mar 25, 2019

Getting out of a debt trap can be a herculean task. “Once a person defaults, he gets into a vicious
cycle: he cannot get cheaper loans to repay debt, his interest burden increases, and the debt pile
rises,” says Ramamurthy of Credit Sudhaar. Difficult though it is, there are some steps you can
take to get out of the debt mire.

Your first priority should be to get rid of high-cost loans—credit card outstanding, personal
loans, etc. Since it’s quite unlikely for an investment to generate returns that can match the cost
of credit card outstanding—around 40%—it makes sense to pay off the dues by cashing out
investments in mutual funds, gold, etc. Taking help from one’s family is another option. “Hiding
financial problems from family members is a big problem. Connect with family or close friends
and try to get interest-free loans,” says Vineet Jain, Co-founder and CEO, Loanstreet.

Consolidating existing loans and leveraging your assets to get new loans at reasonable interest
rates to settle existing expensive loans should be the next step. “As short-term loans come with
higher interest compared to long-term loans, you may take long-term loan against property, top-
up on your housing loan, and settle your high-cost loans,” says Jeet of Rubique. “Some NBFCs
lend to people who have the ability to pay back even if their credit score is low because of a
default. You may approach and negotiate with such NBFCs to grant loans at reasonable interest
rates,” says Arun Ramamurthy Founder, Credit Sudhaar. Be careful though, as NBFCs usually
charge higher rates.

The above mentioned steps can only save you in the short term. For a long-term solution, the
best step is to reduce your expenses. “Adjusting lifestyle and living within one’s means is the
only long term solution. It may be painful, but it needs to be done,” says Joseph of Finvin
Financial Planners. Start by identifying expenses that can be reduced relatively easily—taking a
bus or a train instead of travelling in a car, avoiding eating out, etc. “Though expense reduction
measures will vary for people, the reduction has to be substantial,” says Punja of Credit Mantri.
The other long-term solution is to work towards increasing one’s income. “Increasing family
income—non-working partner can start taking tuitions, online jobs, etc, even full-time jobs, if
possible— to help the family get out of the debt trap permanently,” says Joseph. More
importantly, you should make sure that your current job is protected. “As people tend to become
inefficient at work due to debt trap worries, their career growth stops and in the worst case
scenario, they may end up losing the job, which only compounds the problem,” says Jain.

//economictimes.indiatimes.com/articleshow/68533408.cms?utm_source=contentofinterest&utm_medium=text&utm_campaign=
cppst
Debt Worksheet (Sample)

List all repayable debt including credit cards, car loan, home loan, education loan, personal loan,
consumer loan, instalment loan, etc. List all debt, even if you've stopped repaying.

Lender (Creditor) Interest Total Minimum Monthly Payoff Payoff

rate (%) Amount Monthly Due Date Target Actual
Owed (Rs) Payment (Rs) Date date
Personal Debt Quiz
Take this quick quiz to assess your current debt situation.

1. Is an increasing percentage of your income going to pay-off debts?

Yes/No
2. Is your savings cushion inadequate or non-existent?
Yes/No
3. Can you only make the minimum payments on your revolving credit card/accounts?

Yes/No
4. Is life without credit cards unthinkable?
Yes/No
5. Are you extending repayment schedules-paying in 60 or 90 days bills, to be paid in 30
days?
Yes/No
6. Are you paying late fee?
Yes/No
7. Are you chronically late in paying your bills?
Yes/No
8. Are you paying bills with money earmarked for something else?
Yes/No
9. Are you borrowing money to pay items you used to buy with cash?
Yes/No
10. If you lost your job, would you be in immediate financial difficulty?
Yes/No
11. Are you unsure of how much you owe?
Yes/No
12. Are you threatened with repossession of your care or blocking of credit cards, or other legal
action?
Yes/No
If you answered “yes” to any of these questions, you should give pause for thought. While a single
“yes” is not a sign of impending doom, it may be an indication that you need make a change in
your life style. You are also advised to talk to a financial advisor to evaluate your financial
situation.
Exercise on Personal Debt Management…Revolving Credit Card

In March 2020, Robin is approved for his first credit card! It is a single use card offered by Sun
Bank, his family’s Bank. After careful evaluation of his finances, Robin decides to set a self-
imposed limit of usage not exceeding Rs. 60,000 as against approved limit of Rs. 100,000. He also
promises himself that he will pay his balance in full every month to avoid the 30 per cent APR
(the periodic monthly rate of 2.50%). The card issuer requires a minimum 10% on any unpaid
balance. And so, Robin is off like a rocket with is card and monthly purchases resulting from his
shopping spree followed. He is too busy to realise that his new credit card expenses are seriously
threatening his winter vacation plans in 2020. Help him regain control of his finances by
completing the following credit card balance statement and by answering questions 1 through 3.

Credit Card- Balance Outstanding and Interest Calculations

Approved Limit: Rs. 100000

Forward Month Purchases New Interest Adjusted Payment

balance Year balance .025 balance
(2.50%)
0 April’20 30000 0 30000 3000
May’20 18000 45000 1125 6125
40000 June.’20 24000 65600
July.’20 12000 72000 1800 9800
64000 Augt.’20 36000 1500
101000 Sept.’20

1. Knowing Robin will pay an additional interest on each month’s unpaid balance, calculate
how long it will take him to pay off the issuing bank if he makes no additional purchases and
continue to pay at least Rs. 6000 per month.

2. Calculate how much interest Robin would pay by the time he clears his total unpaid balance.

3. If spending pattern would have continued past Oct.’20 statement, what do you think might
have happened?