In the go-go real estate boom of this decade, this did not buy you too much house considering the median salary of Americans was approximately $55,000. Hence, many became house-poor.
In Canada, Stats Canada reported that the average size of a mortgage in Canada was $90,000 in 2005 which doesn’t seem that bad but when you consider that an average male earned $42,700 and female earned $27,300 that year there are a lot of people who are breaking the Millionaire Next Door rule (source is again Stats Canada).
For credit card debt, the Federal Reserve reports that credit card balances typically average about 5% of a family’s average salary (as a research note, the Federal Reserve tends to underplay the level of consumer debt). But, the Federal Reserve also found that 50% of households had no credit card balances which seems to suggest that credit card debt is highly concentrated in households with out of control spending habits rather than spread uniformly across all households. There may be hope for us all after all.
How much is too much debt for a business?
If you are investing in stocks, Buffet’s rule is never to invest in a business that has long term debt which are 5 times more than annual earnings. Lots of debt impairs a business’ ability to seek grow, increase cash flow, pay or increase dividends and be competitive. In other words, all the things investors are looking for in a good stock.
If you run a business, this is not a hard and fast rule to follow given that most small businesses run up expenses to limit taxable income so earnings are not an accurate base in which to peg debt ratios. Most financial institutions will require debt-to-equity ratios between 1:1 to 1:2 to keep operating loans in good standing (shareholder loans are generally counted as equity in small business loans; in other words, if you have equity of $100,000 in a business, you are most likely eligible for a loan of no more than $200,000 but this depends on the industry and program). However, I would suggest this- since most entrepreneurs put in their own money into their business- try not to put more than 2 to 2.5 times your profits (add your draw into profits since taxable income is always lower in a private enterprise than public one) into the business as a safe cushion. It is extremely hard to earn that money back once you get above this threshold.
How do I control debt?
- Separate needs from wants.
- Pay down your highest interest debt first (sometimes paying down the mortgage is not the best move if your student loan has a higher carrying cost).
- Only take one credit card out with you and have the self-discipline to never put more than 50% of the credit limit on the card (helps improve your credit score as well).
- Formulate a plan (hire a money coach to help you draft one) on how you plan to attack your debt and have an accountability partner/buddy help you keep to the plan. Stay positive throughout.
- Reward yourself for meeting goals
Good luck.
