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explainer

Illustration by Melanie Lambrick

On the face of it, debt is easy to understand: It’s any money you have borrowed – from the bank, a credit company, your rich uncle – that you’ve made a promise to repay. But it’s often difficult to manage. Here’s a rundown on the one financial challenge almost all of us have to face.

What is debt?

Personal debt falls broadly into two categories. It can be secured debt, where the loan is backed by some collateral (like your house or car), or unsecured debt, where no collateral is required but rather the loan is offered on the borrower’s credit-worthiness.

Debt can also be divided into another two categories: Revolving credit, where borrowers can spend up to a set limit before paying it off or paying it down, then doing it all again next month – most credit card debt works this way; and instalment (or non-revolving) credit, which is a (usually much larger) one-time loan that the borrower pays back with set payments over a (usually much longer) period of time.

Different kinds of debt fall into various combinations of these distinctions. A mortgage, for example, is a secured instalment loan, while your Visa bill is non-secured and revolving.

Canadians are probably most familiar with mortgage debt, but there is almost no end to the varieties of debt you can take on – student loans, car loans, personal loans, lines of credit, payday loans, debt consolidation loans. Even overdraft protection on your bank account or credit card could be considered a kind of loan.


What is “good” versus “bad” debt?

An old school of financial thought divided all debt into good versus bad. “Traditionally, there’s a collective idea in Canada that mortgage debt is ‘good,’” explains Gursharon Singh, a client experience manager at non-profit debt counselling agency Credit Canada, “whereas everything else is ‘bad.’” That’s mainly because mortgage debt is seen as building a long-term asset, one especially valuable when home prices are rising. Of course, it’s not so simple.

Take, for example, student loans. “If economic times are bad, if you won’t be working anyhow, going into debt to go back to school could be a very good debt,” Ms. Singh says. If you think of debt as an investment, which admittedly isn’t easy, then investing in a Masters or MBA that pays for itself in a few years via additional income is a wise use of debt. That’s provided you can make the payments, cautions Ms. Singh. “Whatever you call it, anything you can’t pay is bad debt.”

“From my perspective, debt should be primarily used to purchase a home, finance an education, or arguably purchase a vehicle,” says Steve Welker, a licensed insolvency trustee. “It’s not practical for anyone to pay cash for any of those, so those are good uses of debt – provided the interest is manageable and you’re capable of paying the debt back.” Mr. Welker differentiates good and bad debt not by the item you’ve bought, but whether that item has any potential to generate income rather than merely deplete it. “Bad debt are things like consumer goods, clothing, travel, entertainment. These borrow against your future earnings but won’t ever give anything back,” he says.


Is it ‘normal’ to have debt?

As of June, 2022, the average Canadian household had $1.83 in debt, including consumer and mortgage debt, for every dollar of disposable (after-tax) income they earned. “That, to me, shows that debt is very normal,” Ms. Singh says. In a 2021 Manulife Bank of Canada Debt Survey, two-thirds of Canadians reported that they were carrying some kind of debt. So, statistically, yes, it’s normal to have debt.

And it’s hard to resist. “Canadians are actually encouraged to have debt,” says Melanie Leigh, a licensed insolvency trustee. “People still think they have to qualify for a card or a loan, that of course a bank or company won’t give you a loan that you can’t afford, but it’s just not true. They want you to sign here, buy something and pay the minimum.”

Many people constantly struggle with debt and often because of circumstances out of their control. Keeping it a secret makes it worse

Isaiah Chan, Credit Counselling Society

Money experts say that, because it’s normal, there shouldn’t be a stigma around debt. “I’m constantly telling people that they’re not alone,” says Isaiah Chan, vice-president of programs and services at the Credit Counselling Society. “Many people constantly struggle with debt and often because of circumstances out of their control. Keeping it a secret makes it worse. You should know that every time you walk down the street, most every person you walk by has dealt with debt or has debt right now.”

So what is a “normal” amount of debt to carry?

If you’re after a specific number, Rob Carrick’s article, “This is how much debt is normal for your age,” is very helpful. Mr. Carrick, The Globe and Mail’s personal finance columnist, reports the average amount of non-mortgage consumer debt – a very important distinction – with 2022 stats from Equifax Canada. A few examples: The average consumer debt of those age 18 to 25 was $8,129; average debt in the 26 to 35 cohort was $16,832; the 36-45 group had racked up $25,084; and the those between 46 and 55 had an average $31,442 in consumer debt. After that, thankfully for those 57 and up, non-mortgage consumer debt finally began to shrink.

Average Debt (Q1 2022)Average Debt Change Year-over-Year (Q1 2022 vs. Q1 2021)
18-25$8,129 -4.09%
26-35$16,832 2.83%
36-45$25,084 3.57%
46-55$31,442 2.82%
56-65$26,165 1.12%
65+$14,386 0.35%
Canada$20,744 1.54%

Manulife Bank’s debt survey, mentioned above, also asked Canadians who had debt to characterize it as “a lot” (11 per cent of respondents); or “some” (29 per cent) or “very little debt” (28 per cent). Here’s the thing: “Whether or not your debt is big or small is all relative,” Mr. Chan says. “A $5,000 debt to one person may not feel like much at all, depending on their financial circumstances, whereas to others the same amount feels insurmountable.” Mr. Welker hails from a family of trustees who go by this saying: “The depth of your hole depends on the size of your shovel,” he says. “That is to say, it all depends on what is manageable to you.”

How much debt is too much?

If you absolutely need a rule, says Ms. Singh, she recommends that no more than 30 per cent of your monthly budget be allotted to debt repayment. This percentage is called your “debt-to-income ratio,” and of course the lower the better. Ms. Singh notes that 30 per cent matches up exactly with the credit utilization percentage – the portion of your available credit that you are actually using – recommended by many money experts, including Eva Wong, co-founder and chief operating officer of Borrowell.

Budgeting 101: How to pick the app or template to track your spending

In general, you have too much debt when your budget stops working, the numbers quit adding up, and your finances start to feel out of your control. For some, says Mr. Welker, “this might be if you’re being contacted by collection agencies, or if you’re behind on your phone bill or hydro bill and have to pay one or the other.” Ms. Leigh cautions that “while carrying some debt is probably a function of modern life, carrying a large debt is not. This can happen quickly, it sneaks up on you and suddenly you realized you’re overwhelmed.”

Another way to know whether you’re carrying too much debt is to consider if and how it’s holding you back from achieving other financial goals. “It’s probably okay to carry an amount of debt that doesn’t otherwise hinder you,” Ms. Singh says. If your debt payments are routinely trumping your retirement savings or emergency fund contributions, it’s safe to say you’ve acquired too much debt.


What should my debt payment priorities be?

Mr. Carrick describes this age-old question as one of the most-asked in the business: “If you have extra money, should you pay down debt or invest?” The general consensus is that whatever is carrying (or costing) the higher interest should be the priority for your extra cash – if your debt is costing you 5 per cent interest but you can reasonably expect bigger returns from an investment, then go ahead and invest that extra money. Since your credit card interest rate is probably around 20 per cent, you might think that high-interest consumer debt should be the first thing to tackle when you’re cleaning up your finances. And that makes sense.

In our Emergency Funds explainer, money coach Judith Cain indeed recommended that credit card debt sits atop the financial priority list – even higher than the all-important emergency fund – if only because it can feel all but impossible to come up with any savings at all if you’re deep in consumer debt.

That said, assuming you’re not in a bad financial spot, Ms. Leigh suggests a more moderate approach that challenges an either/or strategy. “To my mind, paying off debt and adding to your savings go hand in hand,” she says. “I’d say if you have $100, split it up and put some in savings and some towards debt. The percentage, however, depends on your situation.” If you have no emergency fund, for example, allocate more of your money there, and if you feel like you’ve got enough money in your registered retirement savings plan right now, then put more toward debt repayment instead.


What are a few simple tips to best manage or pay off debt?

Besides not getting in too deep to begin with, of course, and assuming you’re not in so much debt that it’s time to see a professional, managing debt begins with looking closer at the boring old budget – which everyone should be doing anyhow, adds Mr. Welker. “At the end of the month, every month, gather all your information and plug it into an excel sheet, or your preferred budgeting app, or even use a pen and categorize everything into a few broad categories,” he says.

The goal, Mr. Welker explains, “is to make sure your expenses line up with your priorities.” When you realize you are spending on things you don’t need to, put that money instead toward paying down debt.

There are two basic strategies here: Avalanche (top down, starting with your debt with the highest interest rate) or Snowball (top up, beginning with your smallest outstanding obligation first and “snowballing” your way to the largest). Ms. Leigh recommends the latter: “For most people, I’d suggest started with the smallest debt, pay that off first, and make minimum payments on all the rest,” she says.

Mr. Chan recommends setting yourself a (realistic, attainable) monthly challenge. “Maybe you set a goal to pay an extra $50 towards your debt each week, and if you make that goal by the end of the month, you gift yourself a ‘cheat day’ for a set dollar amount. Go watch a movie or have a dinner out,” he suggests. Celebrating is basically hacking your brain to associate good habits with rewards. And if you don’t make your goal that month, you don’t have to beat yourself up – you just don’t get to go to the movies. “It’s a fine balance between holding yourself accountable and cutting yourself some slack.”

Why can’t I just make minimum payments until I die?

If you’re an out-of-sight, out-of-mind kind of person who doesn’t experience a big balance as particularly stressful, it might feel like carrying around debt doesn’t affect your daily life that much. “You can tell yourself it doesn’t matter and pay the minimum per month to keep your creditors satisfied,” Ms. Singh says, “but you’re sabotaging your abilities to build any real wealth for yourself, ever.”

If your plan is to just pay the minimum, not only will you never pay off your actual debt, but you’re also effectively losing the minimum payments themselves. “You might as well just throw that money out, because it goes right to the bank and has no utility at all to the individual,” Ms. Singh says. Or you could think of it this way: “Everything you pay in interest is money that could have gone to your retirement or a down payment on a house,” Mr. Welker says. “Carrying around debt can really delay – or completely sabotage – achieving your other goals,” he adds.

“You can tell yourself it doesn’t matter and pay the minimum per month to keep your creditors satisfied, but you’re sabotaging your abilities to build any real wealth for yourself, ever.”

Gursharon Singh, Credit Canada

Moreover, despite your tough-as-nails exterior, a large debt is probably having an impact greater than you know. “I promise you that carrying debt affects you emotionally and causes stress,” Ms. Leigh says. Want proof? “Debt is a substantial cause of marital breakdown and divorce, it keeps you up at night, and it just weighs on your shoulders all the time,” Mr. Welker says.

What happens to your debt when you die in Canada?

“That’s the ultimate discharge!” jokes Mr. Welker. More officially, the fate of that debt you were dragging around will go something like this: The executor of your estate will first repay your debts, file your final tax returns, and then distribute remaining assets to your beneficiaries. Hence Mr. Welker’s joke: “If you have no assets, no life insurance, no investments and no property, those debts will be forgiven.”

Unless someone has specifically co-signed on your accounts, neither your spouse nor children are legally responsible for your debt. But be warned that it’s not uncommon for a co-signer to have put their name on the line many years or even decades ago – long forgotten – and be unknowingly liable for someone else’s debt. “It’s so important to check in with your lender to see if it’s expected anyone else will be responsible for your debt,” Ms. Singh says. This inquiry is free, confidential and highly, highly recommended.


Key takeaways:

What to know about personal debt in Canada
  1. Debt is defined as any money you’ve borrowed from a bank, company or individual that you’ve agreed to repay
  2. Debt can be secured (with collateral) or unsecured (without), revolving (up to a limit and paid off monthly depending on what you spent) or instalment (fixed payments)
  3. Common debts are mortgages, credit cards, student loans, car loans, medical or dental debt, personal loans, payday loans, debt consolidation payments and overdrafts
  4. Debt is sometimes divided into “good” and “bad”: good debt is an investment that should pay off in the future, bad debt is money that’s gone for good
  5. Two-thirds of Canadians carry at least some debt, and Canadians collectively owe $1.83 in debt for every $1 of disposable income they earn
  6. Some money experts recommend no more than 30 per cent of your income go to debt repayment, though there’s no exact number that is officially too much
  7. Any amount of debt owed that feels unmanageable is too much debt to carry