While loans are an essential part of our financial system, and we have standards in place to try to prevent irresponsible lending as much as possible, the reality is in a society as leveraged as ours, it’s inevitable that a few run into problems repaying their debts.
If you’re in a tight spot, the important thing is not to panic. While escalating debts can be overwhelming, there are several ways, formal and informal, to tackle them.
Speak to a financial counsellor
Struggling in silence is rarely a good move, but it’s particularly inadvisable if you’re struggling with debts. It’s a good idea to talk to a professional as quickly as possible once you realise you have run into problems. Financial counsellors specialise in debt management, budgeting and financial planning. They deal with stressed debtors for a living, so will likely be able to assess your situation and come up with a strategy to move forward.
If you’re wondering how we expect you to pay for a financial counsellor when you’re already drowning in debts, the Department of Social Services offers a free, confidential service for people struggling with their personal finances. These consults can be arranged face to face, by calling the national debt helpline (1800 007 007) or by visiting ndh.org.au.
There are also other non profit organisations that might be able to help in more specialised areas:
The Mob Strong Debt Helpline (1800 808 488) is a free legal advice service about finances for Aboriginal or Torres Strait Islander people across Australia.
The Small Business Debt Helpline (1800 413 828) can help struggling businesses, particularly those affected by Covid19 or natural disasters.
The Rural Financial Counselling Service Program is available to farmers and others in the agricultural industry with money troubles.
The advice a financial counsellor will give you depends on your position. They might simply come up with a debt management plan for you, prioritising more pressing debts and helping you budget to meet all your obligations. This might include debt consolidation or some of the other strategies we’ll outline below. In other cases, they might recommend more formal steps, like contacting your lender's financial hardship department, or exploring personal insolvency options. Either way, an expert objective outsider is likely someone you’ll benefit from hearing from as soon as possible.
Get savvy with your debts
There are a few things you can action yourself to get on top of your debts, and they all involve some form of debt consolidation. This can be especially useful if you have multiple debts and you’d rather just be paying off one lump sum, rather than figuring out which one to prioritise.
Debt consolidation loan
One of the things that can make your debts seem overwhelming is having a number of different creditors. You might have a personal loan with one lender, a home loan with another, and then an escalating credit card bill. It can be difficult to choose which payments to prioritise
For some people, combining all into a single debt consolidation loan can make things more manageable. A debt consolidation loan basically means you take out a new loan, of an amount that you then use to pay off everyone you owe. If you can find a loan with a lower rate than your existing debts, you can also bring down your interest bill.
It's important to make sure that you are actually saving money by consolidating your debts, so it’s worth running the numbers, taking into account any fees associated with your new loan or breaking your existing ones early, to see if you will come out ahead.
Consolidating your debts can be a great way to streamline your repayments, and can often save you on interest, but it will only work as long as you are able to pay off the consolidation loan. You will still owe the same amount, and will need to pay it off.
If your debts have escalated to the point where you don’t see how you can repay what you have borrowed, you will likely need to pursue more formal arrangements.
Try our handy personal loan repayment calculator to see how debt consolidation might make your monthly repayments more manageable.
Credit card balance transfer
It’s specific to credit card debt, but a balance transfer involves transferring a balance of a credit card - usually with high interest rates - onto a card with low or no interest. Many card providers offer a balance transfer rate far lower than normal, often 0%, to incentivise customers to switch over.
Balance transfers al repayments at the balance transfer rate for a given period of time, sometimes as long as 36 months as a special offer. The fee is usually 1-2% of the balance outstanding, but this can often be waived on special offers.
The flip side of balance transfers though is that once the initial ‘honeymoon’ period is up, you will switch to a revert rate. This is normally significantly higher even than the normal credit card rate. A lender might also prevent you from transferring the full balance, meaning you’re still stuck paying some of the residual debt at a higher rate on your old card. Further, a card provider might look at your situation and reject you entirely, so it’s not quite a get-out-of-jail-free card.
Consolidating into your home loan
A variant of the debt consolidation loan is to roll all of your debts in your mortgage. Lenders will often allow you to borrow against the equity you have built. This can be calculated by subtracting the amount outstanding on your loan from the current value of the property.
If you have other debts, credit cards or personal loans for example, you could refinance your home loan, borrowing more money which you could then use to pay off your other debts, putting everything in your home loan. Since home loans typically have lower interest rates than other debts, this could be a good way to save on interest payments.
This strategy obviously only will help you if you have a home loan. You'll also have to be aware that this could add to overall interest costs because home loans are often for 25 or 30 years. Even if the interest rate is lower, more debt stretched over a longer period equals more interest owed - sometimes to the tune of thousands.
You’ll also need to bear in mind that your debt consolidation loan is effectively secured against your house. If you start to struggle with repayments, you could risk your property being repossessed. It also eats into the equity of your home, so if you’re a new homeowner, you might not have that much equity to play with.
Debt management plans with your bank or lender
Before you go into formal debt repayment arrangements, it’s worth assessing your situation to see if there’s a better way out first. Formal debt arrangement or insolvency proceedings are a much more lengthy and serious affair, affecting your credit report, your ability to get credit, and even how you can travel.
There are a couple of popular strategies that can help some people who are struggling, and they involve talking to your lender. Many large lenders including the major banks will have a financial hardship department. Anyone offering loan terms longer than 62 days must abide by the National Consumer Credit Protection Act of 2009, and this includes offering hardship arrangements.
If your financial circumstances change, it can be a good move to seek out this sort of assistance. There will typically be a specialised advisor who will work with you to try and find a solution. You might be able to renegotiate terms in some cases.
Financial hardship is typically used by those who have had external circumstances affect their ability to repay their loans. The Commonwealth Bank for example say it asks for supporting documents, like a medical or employment separation certificate, to support your claim. If you have simply taken on more debt than you can handle, you might be less likely to find help here.
Formal insolvency steps
Many Australians, having exhausted debt management options, come to a point where they realise they have no way to repay what they owe. This situation isn’t as hopeless as it seems, but the important thing is to move quickly. The sooner you take action, the more effective a solution often will be. Under the 1966 bankruptcy act, those struggling have four options.
1. Temporary debt protection
This is a temporary legal status that people who are having trouble paying their debts can apply for. After a temporary debt protection (TDP) is accepted, a 21 day pause period begins, where unsecured creditors can’t take action to reclaim what they are owed. During this time, the applicant can get financial advice, negotiate alternative terms or explore the other three insolvency options.
TDP typically doesn’t apply to certain types of debt, including child support or fines imposed by a court. Secured creditors are also able to start repossession proceedings, or file bankruptcy charges. Temporary Debt Protection can buy you some time to figure out your best strategy, but after 21 days, things resume where they left off.
2. Debt agreements
Sometimes, creditors will recognise that a person's financial position is precarious enough that there’s little chance of them recouping everything they are owed. They might agree to come to alternative arrangements, called debt agreements. This basically involves the two parties and a debt agreement administrator coming together to negotiate new terms. This might involve partial repayment or an extended loan term.
Debt agreements can help to avoid formal insolvency or bankruptcy. They can however effect your credit score, and will appear on a register for a period of time. If you think that you might need to alter your loan agreements in this way, it’s important to start proceedings as quickly as possible. The longer a debt goes unpaid, the more unlikely the creditor may be to negotiate.
3. Personal insolvency agreement
A more extreme debt agreement is for you to be declared personally insolvent. This means a trustee is appointed to take control of your property. This trustee then manages your debts, potentially selling assets to be able to pay creditors. They will typically make a creditor an offer to repay some or all of the amount owed. The agreements can differ, and in some instances you will be allowed to keep assets like a car or house.
Personal insolvencies appear on a public record permanently, and can affect employability and your credit history. However it is generally regarded as preferable to bankruptcy, so this should be the second-last resort.
Bankruptcy is a legal term that formally declares that a person is incapable of paying their debt. It can be both voluntary or court ordered. As with insolvencies, a trustee is appointed who takes control of all the assets of the bankrupt individual. They also will manage any income that the person brings in. The bankruptcy period lasts for three years and one day.
A formal bankruptcy absolves you of most debts after the bankruptcy period is up. Once you have been declared bankrupt, creditors typically are not able to pursue further payment. However, a bankruptcy is recorded permanently, and is likely to effect your future employment and credit history. The Bankruptcy Act 1966 also makes it an offence to travel overseas or do any act in preparation for overseas travel (such as purchase flights) without first obtaining their trustee’s consent.
Debt troubles come with varying degrees of severity. For some, a short consultation with a financial counsellor will be enough to sort things out, but each year thousands of Australians find themselves in need of a declaration of personal insolvency or bankruptcy. Anyone struggling should take initiative as soon as possible, be it contacting their lender's financial support department, or asking family members for a helping hand. Every state and territory also has free financial counsellors whose job it is to help people struggling to repay their debts.
Financial problems can cause real world harm, to your mental and physical health. It’s important to take action as soon as you can to try to avoid insolvency or bankruptcy, but even more important to have perspective about the whole thing. Worst case scenario, after three years of bankruptcy, you effectively can have a fresh start. Your credit history will be impacted, but there’s no reason why you can’t slowly rebuild your reputation, and become financially responsible.