7 Ways to Avoid Debt Trap

The 2 Biggest Traps of Life are Marriage and Debt Trap :) Debt Trap is like a Chakravyuh, Its easy to enter but impossible to get out like Abhimanyu. Improper Financial Planning is responsible for falling into debt trap. There are few tips on how to avoid Debt Trap.

1. Avoid too Many Loans: As a thumb rule, EMI of all loans availed should not exceed 45% of take Home Salary / Net Income per month. If it exceeds this limit then we are inviting trouble for ourselves. If majority of loan portfolio comprises of unsecured loans like Car Loan, Personal Loan etc then it shows credit Hungary behavior & we need debt counselling. Secured loans like Home Loan is considered to be good in debt portfolio. All the unsecured loans should be serviced first

2. Debt Portfolio Planning based on  Future / Potential Earnings: This is the biggest mistake we commit. Indians are very optimistic lot and always rely on Future / Potential earnings like Next Year’s Bonus, Future Salary hike…Wake up my friend, Due to global impact Indian Economy is now as fragile as American Economy. Pink Slips are now reality in Indian Inc. If god forbids and anything goes wrong then its a disaster. It is better to service all loans before 40 years of age & stop relying on Future / Potential Earnings.

3. Credit Cards – The Sweet Poison: The biggest contributor to debt trap. We spend as if we need not to pay back. If not used judiciously then it can act as black hole which will gulp us completely. On an average we are spending 1 Month’s expenditure in advance through Credit Card based on assumption that we will pay from next month’s salary. If this 1 month cycle exceeds by even 10 days due to some emergency then the interest will pile up like ripple effect so financial discipline is important while using credit card.

4. Emergency Funds: At any given point of time, we should have reserves equivalent to 6 times the monthly expenditure in contingency fund including Loan EMI’s. This fund should not used at all. It helps to tackle any unforeseen circumstance.

5. Avoid Borrowing for Luxuries: Luxuries can wait but basic survival cannot wait. We tend to borrow for Foreign trips, LED TV’s etc. Always spend on luxuries from savings to avoid debt trap. The social pressure plays key role in this regard but please understand that no one will come to your rescue during difficult time.

6. Don’t rely on Friends and Family:  I am not saying you start doubting reliability of friends and family but at the same, it is mentioned in Gita the “We came alone in this world and we need to bear our burden on our own” Its better to be self reliant rather seeking help of others in emergency / debt trap.

7. Listen to your Mind in Financial Matters:  Last but not least, Always listen to your mind, not your heart in Financial matters to avoid debt trap.  Our heart is our biggest enemy in Financial Matters and always give wrong advice. Its better to depend on more reliable “Mind”.

Hope you liked the post.

Copyright © 2011-2013 Nitin Bhatia. All Rights Reserved.

  • Bins

    Hi Nitin,

    Good observation…I am buying a flat which cost 43 lakhs. By monthly salary is 75k.Taking 30lakhs loan..I am 34 year old by May..is it good to go for 15 years to 20 years? working in a private IT Company..plz advice.

    • Nitin Bhatia

      i will suggest 15 years, if your EMI is not exceeding 50% of your net salary

      • Bins

        Thanks Nitin…Need one more clarification. For a loan of 30 Lakhs with 10% interest for 20 years with emi as 30k. After 5 years if I close the loan, will the interest paid by me for 5 years will be adjusted towards the principal amount? Because the interest is calculated based on the 20 year duration, but the loan is getting closed by 5 year.Please reply

        • Nitin Bhatia

          Interest is calculated on Monthly reducing basis therefore interest paid will not be adjusted against principal.