Keep loan EMIs to a maximum of 60 per cent of your salary to avoid getting into a loan trap
How do you go from career earnings of over $25 million (Rs 1.73 billion) to being bankrupt? Ask Boris Becker, a former world number one tennis player from Germany and now aged 51, whose trophies and several other memorabilia went under the hammer online to pay off his creditors. In 2017, Becker was declared bankrupt. He tried claiming diplomatic immunity from Central African Republic, a tiny land-locked and among the world’s poorest nations. The claim turned out to be invalid. Becker finally dropped his immunity claim in December 2018, which paved the way for the auction. It was a sad day for a tennis legend to see his legacy placed on the auction table.
But Becker didn’t turn bankrupt overnight. And therein lie lessons for all of us. Lavish lifestyles, expenses that shoot through the roof, and excessive borrowing are some of the classic signs in our money lives that could lead to bankruptcy. In India, while individuals cannot officially declare themselves ‘bankrupt’ as Becker could in the UK (the Indian government has yet to notify the Insolvency and Bankruptcy Code, 2016’s individual bankruptcy code), we’re talking about reaching a stage where you may go belly up. A stage where are simply unable repay your debt and perhaps turn to selling your family silver, your home and your belongings to pay off the creditors at your doorstep.
Multiple loans and credit cards
Financial planners and debt experts say too many borrowings are ticking time bombs. These are planted unknowingly and can explode any time.
Many of us use credit cards. But did you know that the interest rate that credit cards charge on outstanding debt is around 3 per cent to 4 per cent a month? That’s about 36 to 48 per cent interest cost a year. Using your credit card is not wrong. But to spend beyond your means using your credit card is bad. To keep revolving your credit card is worse. As per Reserve Bank of India data, Indians spent Rs 57,648 crore by credit cards in April 2019, up from Rs 44834 crore in April 2018 and Rs 33143 crore in April 2017.
Credit card outstanding—or the unpaid credit card bills—also increased. Between April 2018 and April 2019, credit card outstanding went up by 26 per cent. Between 2017 and 2018, credit card outstanding went up by 35 per cent. As per IndiaLends, an online lending firm, there was a 55 per cent growth in personal loans for travel purposes, in the weeks leading up to the summer holidays recently. According to IndiaLends, 85 per cent of these loan seekers are millennials who would seek loans for amounts ranging between Rs 30,000 and Rs 2.5 lakh.
"Household Debt in India increased to 11.3 per cent of our GDP(gross domestic product) in Jan 2019 from a low of 8.7 per cent of GDP in the third quarter of 2012, whereas household savings has been falling from 25 percent of GDP in 2009 to 17 percent in 2018. Earlier, home and mortgage loans dominated the debt landscape, which is replaced now with personal loans, credit cards and financing of online purchase. The main reasons for the fall in household savings is due to mixing of low job creation, high consumption by household and increase in financial liabilities of the household to support short term consumption”, says Tarun Birani, founder and CEO, TBNG Capital Advisors.
Apart from taking debt for enjoying holidays, another borrowing that can burn a big hole in your pockets is an education loan. For those who aspire to send their kids abroad for foreign education, Kalpesh Ashar, founder, Full Circle Financial Planners and Advisors suggests a sum of around Rs 70-80 lakh for a two-year post-graduate program. But what if your child doesn’t get a job or a valid work visa that would enable her to pursue a meaningful career abroad, after graduation?
Aparna Ramachandra, founder director, Rectifycredit.com, a credit advisory company, recalls a family that had taken an education loan of Rs 28 lakh for their kid’s foreign education. But due to lack of job opportunities after his graduation abroad, he had to return home to Mumbai. After a six-month agonizing search, he landed a job that paid him a relatively low monthly salary of about Rs 35,000. Unable to repay the debt, the father, who by then had retired, approached Aparna for help. A solution was worked out—a small family property lying somewhere, which otherwise wouldn’t have been sold, was finally sold to reduce the debt burden and bring down the equated monthly loan instalments (EMI). “Take only as much credit as you can afford to repay. A maximum of 60 per cent—but ideally not more than 30 per cent—of your monthly income can go into paying EMIs,” says Ramachandra.
Keep your business and personal lives apart
This is true for businessmen and professionals. Experts say that often entrepreneurs get so engrossed in their business ventures that they forget the line that divides home and office. Any family expenses that they incur get drawn out from their business. Any loans they take get repaid from business profits. So far, so good.
But what happens when there is a downturn and the business doesn’t do well? “Individuals have their own expenses, which have got nothing to do with their business. Their own retirement, their children’s education, their own lifestyle and so on. Their business income is separate, actually. A good habit is to pay yourself a regular salary. Make this a monthly habit and regularize your personal income from your business every month. Your lifestyle must, then, depend on this income you get home, every month,” says Birani.
Birani recollects a couple—he doesn’t want to name them as they are his clients—who once mortgaged their own property with a bank to finance a working capital loan for the company in which they were joint partners. What if the firm cannot repay the money to the bank in time? The bank would just seize the property, which is actually a personal property,” he says.
Bad investments choices
Avoid bad investments. Mrin Agarwal, financial educator and founder director of Finsafe, says that in recent years, many people have been chasing bitcoins. “People are not just satisfied with buying equities and equity mutual funds. They want to dabble in derivatives without understanding the full repercussions,” she says.
Mrin adds that if we are not saving “at least 20 per cent of our earnings, then that is surely a recipe of disaster.”
Surya Bhatia, managing partner of Asset Managers, a Delhi-based financial planning firm, plays tennis and has followed Becker’s career closely. “Sport has a small shelf life. But Becker had smartly remained relevant by taking up commentating and coaching assignments. Many other top tennis players have done that too, successfully. But Becker did not manage assets well,” he says.Bhatia is quick to correct himself: “That’s polite, actually. He destroyed himself.”