Managing your debts

How much debt is too much debt?

There is no universal definition of "too much" debt because it depends on your financial situation, income, and how much you can afford to repay. Earning more may mean you have more money to put towards larger debt payments. However, you must also consider how high your other spending commitments are, for example on your rent/mortgage or on financial dependents like children.

Whilst there’s no exact figure, you may be in too much debt if you’re struggling to keep up with your repayments or your debt is affecting your emotional or mental well-being.

Debt might also be considered harmful if you have several high-interest, expensive debts, for example, payday loans, overdrafts or credit cards. Even if you’re currently managing repayments of these types of debt, the costs can quickly add up and become less manageable.

Is it OK to be in a small amount of debt?

Having manageable debts is not necessarily negative. Borrowing wisely and responsibly handling your debts can positively impact your credit score.

This is because using credit, and paying it back on time, and in full, can show lenders that you’re a reliable borrower. A better credit score can open the door to better deals on loans, credit cards, and mortgages in the future.

In some cases, affordable debt can even help you achieve your financial goals. For example, a mortgage may help you get on the property ladder faster. This is because you will be building equity in your own home. Equity is the amount of the property you own. Equity is calculated by subtracting your mortgage balance from the estimated house value.

So, being in some debt can be fine, as long as you make thoughtful choices about what you use it for and only borrow what you can comfortably afford to repay. However, you must be careful not to become too reliant on debt or use it to fund a lifestyle that is unsustainable based on your income. This could result in you falling further into debt which may become unmanageable.

What categories do debts fall into?

There are two main types of debt: secured and unsecured.

Secured borrowing is when the money you borrow is secured by an asset. This is most commonly your home, but some car loans will be secured against the car. This means if you fail to pay back the loan, the lender could take possession of the asset you’ve secured the loan against.

The most common types of secured debt are mortgages, secured loans and car loans. The difference between mortgages and secured loans is mortgages are used to purchase the home itself whereas money from secured loans goes into your bank account to be spent how you want (but your house is still eligible for repossession if you miss repayments).

Secured loans are generally offered for higher amounts and paid back over longer periods vs. unsecured loans. They are seen as less of a risk to lenders because the asset they’re secured against helps to guarantee they’ll get their money back. This may mean you can get a lower interest rate on a secured loan, but it does come with the risk of asset repossession.

Unlike secured debt, unsecured debt isn’t backed by an asset. The most common types of unsecured debt include personal loans, credit cards and overdrafts. These often have higher interest rates than secured loans and you aren’t able to borrow as much.

What happens if I don’t pay my debts?

Not paying your debts can land you in serious trouble. You may have to pay late fees and penalty charges. Missing or making late debt repayments can also seriously damage your credit score, meaning you’re less likely to be accepted for credit when you need it in the future.

If you fail to repay a secured loan, the lender can repossess the asset used to secure the loan to recoup their money.

Consistently failing to repay debts could lead to the lender hiring third-party debt collectors or legal action to recover the debts. And in the worst cases, you could end up with a County Court Judgement (CCJ) or Individual Voluntary Agreement (IVA).

Having a CCJ could make it difficult to rent accommodation, and some employers will conduct a credit check as part of their hiring process, affecting future job opportunities.

What is the best way to manage debt?

Managing your debts effectively will require careful planning and self-discipline. It’s important only to borrow what you can afford to repay and factor the repayments into your monthly budget.

If you have multiple high-interest debts, you should research whether or not a debt consolidation loan is right for you. These loans allow you to pay down your debts by consolidating them into one more manageable monthly payment. It’s also possible you may be able to secure a lower interest rate.

If you find yourself struggling with your debts, speak to your lenders as soon as possible. They are required to help you find a repayment solution you can manage. This could include a payment holiday, where you temporarily stop making payments or an under-repayment plan, which reduces the amount you pay each month. Both solutions may affect your credit score.

You may also find it helpful to seek support from independent third parties. If you are struggling with debt, you can talk to Citizens Advice or MoneyHelper.org.uk for free. You could also speak to an independent financial advisor, who can provide advice based on your personal circumstances.

How can I avoid more debt?

There are lots of things you can do to avoid falling further into debt, such as;

Create a monthly budget - Review your monthly income and expenses and work out how much you have spare each month. Then, decide how you’re going to make the most of this, for example by overpaying debt or building up your savings. Don’t forget to factor in any one-off expenses too so you’re not surprised by these.
Use free budgeting apps - Budgeting apps can help avoid debt by providing real-time insights into your spending habits.
Check your credit report - When you take out new credit, lenders will check your credit score. The better your credit score is, the lower the interest rate you’re likely to be offered. It’s beneficial to keep your credit report up to date and learn how to boost your score to get the best deals on borrowing. This may also help you access things like 0% interest credit cards, meaning you can borrow money for a period of time for free (though make sure you use offers like these to boost your financial position rather than taking on further debt!)
Look at building an emergency fund - Having an emergency fund stops you from relying on borrowing if something goes wrong, for example if your washing machine breaks down and you need to buy a new one. Building an emergency fund may be easier than you think - you can start slowly, by putting away a small amount of money each month. By choosing an easy access savings account you’ll be able to access your funds as and when you need them.
Consider paying with cash or debit cards - Shopping with a credit card could mean you’re tempted to spend more money than you have. When you rely on cash or the money in your current account, you can’t spend more than you have.
Minimise temptation - If you’re guilty of impulse spending, it might be a good idea to avoid situations where you’re tempted to spend. For example, unsubscribe from marketing emails and avoid shops that make you want to splurge. You could also consider waiting 24 hours after deciding you want to buy something before buying it, in case the impulse goes away.
Save for big purchases - Try to delay large purchases until you’ve saved enough money to pay for them without borrowing. Consider putting some money away each month towards your big purchase goals.
Pay bills and credit repayments on time - By paying your bills and credit repayments on time, you will avoid any risk of additional charges as well as potentially boosting your credit score.
Learn about personal finance - Understanding interest rates, credit scores and the implications of borrowing can help you manage your finances better. There are lots of easy-to-understand resources available, including podcasts and YouTube videos. Just make sure you're getting factual information from good sources and always be on the lookout for scams.
Seek support if you need it - Don’t suffer alone - if you're struggling financially, seek support to get back on your feet. Citizens Advice and MoneyHelper.org.uk offer free, impartial support.
Set yourself saving goals - Having something to save for, like a house, dream vehicle or trip around the world, can be incredibly rewarding and give you a good reason to stop spending on items that you don't need.
Increase your income - If possible, look for ways to increase the amount of money you earn to help reduce your debts quicker or prevent you needing to borrow more money. Work towards a promotion, switch to a job that pays more money or apply for a second job that fits around your primary job.