Avoiding debt takes prudent financial management to minimise borrowing and ensure sustainable finances. This includes budgeting, saving, and making informed spending decisions.
Most people carry some form of debt, from student loans to council tax, but some debts can be easier to manage than others, and it only takes one missed payment for your financial situation to spiral out of control.
The best way to deal with debt is to avoid it altogether, and there are various steps you can take to keep your finances in tip-top shape. However, even if you're already in arrears, stopping your debts from escalating further can help you deal with the situation before it becomes unmanageable.
Put simply, debt is a sum of money you borrow from an individual or business under the condition that you'll pay it back over time. Unless the debt is written off by the lender, it typically needs to be paid back in regular instalments with added interest.
Borrowing and repaying money is a normal part of life for some people, but problems can arise if you can no longer afford to make repayments as agreed. Becoming overly reliant on credit can also lead to a vicious cycle where you're forced to keep taking out loans to cover your debts.
Debt generally falls into two main categories: secured and unsecured. The main difference between them is the existence of collateral to protect the lender if the borrower defaults on their payments.
Here is a quick guide to the difference between secured and unsecured debt:
Secured debt is debt that has been backed by an asset as collateral, such as a property or vehicle. This means that, if you can't or won't repay the debt, the lender has the right to take control of your home or car and sell it to recover the money owed.
For example, if you take out a mortgage on a home and default on your monthly payments, the mortgage lender can take possession of your home and sell it to help them recover the debt.
Unsecured debt is debt that hasn't been backed by an asset and doesn't require any form of collateral. This means that, if you don't pay, your home or car can't be repossessed and sold to recover the money owed and, instead, your lender will likely take you to court or hire debt collectors to get you to pay.
For example, if you take out a personal loan and stop making repayments, your belongings will be protected but you could still face bailiffs, late fees, and a significant drop in your credit score, all of which can make it difficult to get approved for credit for several years.
"From a boiler breakdown to a job loss, having some money stashed away can be the difference between keeping your head above water and being forced to borrow money to cover the cost."
For most people, steering clear of debt is easier said than done - especially when financial emergencies arise. However, there are steps you can take to avoid debt altogether, such as:
The key to avoiding debt is doing your research before taking out any new credit accounts. Whether you're applying for a loan to bridge the gap until payday or taking out a mortgage on your first home, it's crucial to familiarise yourself with any interest, fees, and repayment terms before putting your name to anything.
This might sound like an obvious step but every year, thousands of people take out credit agreements without fully understanding the full implications of what they're signing up for and this can be a slippery slope to problem debt.
Using a credit card can help you build your credit and pay for goods and services when you don't have the funds readily available, but maximising your credit utilisation ratio (the percentage of your credit limit used) can lead to serious financial problems.
The key to using credit cards responsibly is spending within your means and keeping on top of your credit card bills each month. By only using credit cards for major purchases and financial emergencies, you can avoid credit card debt.
Even if you're not struggling financially, an emergency fund is essential for dealing with any sudden and unexpected expenses. Financial emergencies can happen to anyone and being prepared can help you save money and avoid falling into a cycle of unaffordable debt.
From a boiler breakdown to a job loss, having some money stashed away can be the difference between keeping your head above water and being forced to borrow money to cover the cost. Most financial experts recommend saving between three and six months' worth of living expenses.
Creating a budget can help you stick to a strict spending plan and avoid spending more than you can realistically afford, which is a common cause of debt. Even a simple budget can help you know what you should and shouldn't spend money on and significantly improve your spending habits.
Start by listing your after tax income and deduct your fixed expenses, such as rent, transport, and groceries. This will reveal your disposable income, which is a set amount of money to spend on whatever you choose each month. Remember to review and adjust your budget as necessary as your financial situation changes.
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Debt can happen for a variety of reasons and isn't always a direct result of poor money management.
Here are some of the most common causes of debt and how they can lead to financial problems:
Being on a low income or relying on benefits as your only income source can put you in a position where you're forced to borrow money to cover basic essentials.
Even if you're making enough to get by, an unexpected expense, such as an emergency vet bill or a home repair, can be all it takes to tip your finances over the edge.
Being in a relationship can provide a sense of added security, especially when it comes to your finances. But when a relationship breaks down, it can be difficult to adjust to such a dramatic decrease in monthly income, and for some, borrowing money can seem like the only way out.
Depending on the situation, you may also have to budget for legal bills, court costs, and childcare. By using the breakdown of your relationship as an opportunity to take stock of your finances, you can make positive financial changes to support your future.
One of the most common causes of debt is poor money management or, in other words, having more money going out than you have coming in. Whether it stems from a lack of financial education or you're prone to impulse purchases, spending money you don't have will almost always lead to debt.
Extra fees, such as interest and penalties, can also see your debt load grow year-on-year. For example, if you take out a £5,000 loan with an annual interest rate of 5%, your balance will continue to grow by £250 each year - even if you don't borrow any more money.
Some areas of the country have higher living costs than others and this can make it difficult to afford everyday life. From house prices and energy bills to groceries and public transport, not budgeting for these expenses can leave you short and force you to borrow money to cover the cost.
The rising cost of living has also meant that most people's money simply doesn't stretch as far as it used to, making it impossible for debt repayment to be a top priority and pushing millions further into financial hardship. By factoring higher living expenses into your spending plan, you can ensure you're only spending within your means.
Unfortunately, being in debt will almost always impact your credit rating and make it difficult to get approved for further credit. This is because, when you have a missed payment or default on your credit file, it essentially tells lenders that you've struggled with debt in the past and there is a chance you could default on future credit agreements.
When you apply for credit, lenders will use the information contained on your credit file to determine your creditworthiness (how risky of a borrower you're likely to be). This will let them know whether you're a good candidate for credit and what interest rate you should be charged.
However, if your credit rating is poor because of past debts, lenders may see you as a high-risk borrower and be less willing to enter into a new credit agreement with you. This means that, for as long as your debts are listed on your credit file, you'll struggle to access a loan, mortgage, phone contract, or bank account.
"From financial advisors to debt management companies, reaching out can be the first step towards eliminating your debt problems for good and can make it feel like the weight of the world has been lifted from your shoulders."
Being in debt can make it feel as if you'll never get your finances back on track, but you can stop debt in its tracks by following just a few simple steps:
The most popular way of dealing with debts you can't afford is to enter a debt solution that allows you to make regular payments based on your income and expenditure, such as an Individual Voluntary Arrangement (IVA).
This can result in all interest and charges being frozen and give you protection from your creditors, allowing you to chip away at your outstanding balance at a pace that suits you. Once your IVA comes to an end, any remaining debt will be written off and you'll be free to get on with your life.
Just making the minimum payment on your credit card bills each month can be tempting - especially if money is tight. However, while this can help you avoid late fees and charges, it will barely make a dent in your outstanding balance and you won't be any closer to repaying what you owe.
When you only make the minimum payment, your credit card balance will barely budge and this can increase the length of time it takes to pay off your debt in full and lead to you paying more in interest over the course of your repayment period.
Before you deal with your debts, you must make a plan for how you're going to tackle them and, more importantly, in what order. Some debts - known as 'priority debts' carry serious consequences the longer they remain unpaid and must be dealt with as soon as possible.
Examples of priority debts include rent and mortgage arrears, gas and electricity bills, council tax arrears, and court fines. Choosing to ignore these debts can lead to your energy supply being disconnected, bailiffs seizing control of your belongings, or in serious cases, your home being repossessed.
Dealing with debt isn't easy, but you shouldn't have to face it alone. Whether you're in denial about the extent of your financial situation or are worried about people finding out that you're in debt, there are several reasons why people don't seek the support they need.
From financial advisors to debt management companies, reaching out can be the first step towards eliminating your debt problems for good and can make it feel like the weight of the world has been lifted from your shoulders. The sooner you seek expert debt advice, the sooner you can get your finances back on track.
Debt can be easy to get into and difficult to get out of, but most common causes of debt are preventable. Even if you've never dealt with debt before, taking steps to avoid it can help keep you in control of your finances when unexpected expenses arise.
From how to prevent further debt to how to avoid getting into debt in the first place, making positive financial choices can be the difference between good financial health and serious money problems.
By only spending within your means and getting help and advice when you need it, you can build a strong financial foundation and enjoy a life free from the pitfalls of debt.
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