Have you taken on too much debt?

What is an easy rule of thumb to work out if you have taken on too much debt?

Sadly, there’s no one-size-fits-all answer to the question of how much debt is too much. While some suggest that if thirty percent of your net income is being pur towards home loan repayments signals housing stress, there’s not definitive measure for overall debt repayments versus income. That said, I think there are three broad questions you need to ask yourself about any amount of debt that you owe.

What type of debt do you have?

There are different types of debt: a home loan, for example, or a car loan, student loan, investment loan or a credit card. You need to ask yourself whether the debt that you have is for a good cause (such as buying a home or a good investment) or a not-so-good cause (such as a credit card debt).

Sometimes even relatively small amounts that we owe can still be too much. For example, owing $10,000 on a credit card at the average credit card interest rate of around 19 percent is probably too much debt.

What’s the opportunity cost of your debt?

Irrespective of the type of debt you have, is it the best use of your money? In other words, are your current loan repayments stopping you from doing something better with your money? The things that you can’t afford to do because of your loan repayments are the opportunity cost of your money. For example, a huge car loan might prevent you from getting the home loan you want, or the massive home loan might prevent you from making a career change.

Are you struggling with the repayments?

Whatever the type and opportunity cost of your debt, if you’re struggling with the repayments now in our low rate environment, you need to do a detailed assessment of your financial situation. It may be that your debts levels are fine and you just need a better budget – work it out sooner rather than later though.

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