Study shows Canadian household debt declined in February

It seems Finance Minister Flaherty’s pleas for Canadians families to take on less debt aren’t falling on deaf ears. Canadian families took on a lot less debt in February than previous months. According to RBC Economics, Household debt was only up 4.5 per cent in February – that represents the smallest increase in over a decade. Although this is a glimmer of good news for Flaherty and the Bank of Canada, overall household debt still stands at a whopping $1.67 trillion.

 Good Debt vs. Bad Debt

Although household debt is an important figure, it’s a pretty broad term. Let’s break it down further: there’s good debt and not-so-good debt. Good debt is debt that is leveraged to increase your net worth; examples include mortgage debt and student loans. Not-so-good debt (or bad debt) is what is getting a lot of Canadian families in hot water. Bad debt includes credit cards, payday loans and lines of credit – if you’re using debt to finance purchases you can’t truly afford then you’re living beyond your means. Bad debt is typically tied to Prime Rate – when Prime Rate finally goes up a lot of Canadian families could be in for a rude wake up when their interest rates skyrocket.

 Behind the Numbers

Household debt consists of mortgage and non-mortgage debt.  We need to drill down further to truly understand the numbers. For the month of February, mortgage debt totaled $1.16-trillion, up only 5.4 per cent, the lowest increase since November 2001. Meanwhile, non-mortgage debt totaled $512-billion, up only 2.5 per cent, the lowest increase since July 1993.

It’s no secret Finance Minister Jim Flaherty is deeply concerned about mounting household debt. Last month Flaherty was irked when mortgage lenders RBC and Manulife posted aggressive five-year fixed rate mortgages below three per cent. Although this is just one data set, this could be the beginning of a positive trend and it seems as though Flaherty has reason to celebrate. Canadians who lock-in their mortgage rates are a lot better insulated from interest rate shock – a sudden increase in the overnight lending rate – than families with debt tied to prime rate.

 Savings Rate Still Needs a Boost

Although it’s good news consumer debt is slowing, Canadians would benefit from increased savings rates. With more Canadians living pay cheque to pay cheque and fewer with a workplace pension, it’s imperative that we take action to boost our savings rate now. If all goes according to plan, Flaherty is expected to raise the yearly TFSA contribution rate to $10,000 when the federal books are balanced in 2015. Why not get a head start and increase your savings today? Financial pundits like the Wealthy Barber suggest saving 10 per cent of your income. If that’s too ambitious of a goal right now for your pocketbook, the easiest way to get yourself in the habit of saving is to “pay yourself first”; set up an automatic savings plan and sock the money away in a high interest savings account before you’re tempted to spend it. A little can go a long way. If you contribute only $25 per week with a three per cent return, you’ll have over $11,000 in 25 years – not too shabby!

 We Still Have a Long Way To Go

Although it’s ok to pat ourselves on the back, household debt is still a grave concern. The debt-to-income ratio reached a new record of 165.0 per cent for the last quarter of 2012, up slightly from 164.7 per cent. The bottom line is we still have a lot of work to do. If you’re in debt set yourself a realistic time frame of being debt-free. The last thing you want to do is carry debt into retirement, especially if you have no savings and pension plan.