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Aug 08, 2012, 02.59 PM IST
Debt trap is a scenario in which you add one debt to pay another debt. This type of borrowing to pay debt is generally not a onetime phenomenon as the trap gets built over a period of time.
Debt trap is a scenario in which you add one debt to pay another debt. This type of borrowing to pay debt is generally not a onetime phenomenon as the trap gets built over a period of time. For example, if you have a credit card due which you pay by borrowing from a bank and find it difficult to pay back the loan taken from the bank, you have every reason to believe that debt trap has begun. Debt trap is the worst thing that can happen in an individual’s life and it is a sign of gross financial mismanagement by an individual. However the comforting factor is that the debt trap does not get build overnight. As an individual you will get signs which indicate that debt trap is getting created. It is important to monitor such indicators. Let us check some of them:
Your Credit Card current balance is increasing: The current balance is that part of credit card payment which an individual is supposed to pay on monthly basis, as and when card is used. There are scenarios in which current balance of the card keeps on increasing and needs to be monitored. Take the case when you find that your credit card current balance is increasing as you’re paying only the minimum balance and carrying forward the remaining balance to the next month. Revolving credit card balance is an indication of creation of debt trap. Credit card interest rates are very steep and you will find that current balance is ballooning very fast. It is important that you pay the monthly balance on time, irrespective of current balance amount. If you follow disciplined approach of payment on time, it is not a cause of concern and can be overlooked as you can safely assume that debt trap is not getting created.
You are borrowing for consumption purpose: This is the worst thing to happen. Borrowing should never be done for consumption purpose. Borrowing makes sense when it is done to fund an asset like house or land. But if you start borrowing for consumption, then it is beginning of problem. You may not have sufficient disposal income to fund such borrowing and it marks beginning of debt trap. Borrowing beyond limit for purchases of white goods should also be avoided. People often swipe cards without looking at consequences of how it can impact payment capabilities in future.
You have reached threshold limit of borrowing: Banks and financial institutions allow you to borrow upto a limit which is close to 50% of salary. If you have reached threshold limit of borrowing i.e. exhausted your limit to borrow, trouble has begun for you. Any unusual or unforeseen event, may force you to borrow more through credit card or some other form of borrowing. Now since you have limited income to fund this unforeseen borrowing, you begin to fall into debt trap. Always borrow upto a comfortable limit and it is suggested that you should borrow only upto 35% of salary.
You get carried away and fall prey to demonstration effect: Many people buy some products or services not because they need it but because they get carried away by what others are doing. This is called as,’ demonstration effect’. If you are overwhelmed by demonstration effect and spend beyond a limit, it may be beginning of debt trap. So watch out for your consumption pattern and behaviour.
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