Are you a debt junkie?

Credit is a double-edged sword—it can help you fight financial difficulties or land you in one. In a bid to expand, companies let the uninitiated rack up debt without informing them of its costs. Take this short quiz to find out how well you manage debt.

     Print Edition: December 25, 2008

Credit is a double-edged sword—it can help you fight financial difficulties or land you in one. In a bid to expand, companies let the uninitiated rack up debt without informing them of its costs. Take this short quiz to find out how well you manage debt.

1. Do your loan EMIs and credit card payments account for more than 50% of your monthly take-home income? YES / NO

2. Do you take personal loans and use credit cards to fund lifestyle expenses? YES / NO

3. Do you take a loan just because it is easily available even if it is at a higher rate of interest? YES / NO

4. Are your health, work and family life adversely affected due to the ballooning debt and the fear that others may come to know of it? YES / NO

5. Do you roll over the balance due on your credit card more than four times in a year? YES / NO

6. Are you skipping certain essential expenses to tide over the credit crunch? YES / NO

7. Have you dipped into your long-term savings for daily expenses or repayment of debt? YES / NO

8. Are you considering taking fresh loans to settle your past borrowings? YES / NO

Give yourself 1 point if you answer yes to any of the above questions.

Red signal (Over 7 points): You are the proverbial sitting duck. It is time you took professional advice and got a grip on your debt situation.

Amber signal (4 to 6 points): You need to work on a few issues, but for the most part you understand the risk of falling into a debt trap and know where the danger lies.

Green signal (Less than 4 points): You are a sensible borrower who knows how to manage debt. Salespersons of financial products will find it difficult to hoodwink a responsible person like you.

YOUR FINANCIAL BAROMETER

How can you tell whether your debt is within limits or if you have sufficient liquidity at hand? Money Today explains four basic ratios that can help you assess your financial position more objectively.

 WHAT IT IMPLIESIDEAL LEVEL
Liquidity ratio = Liquid assets / Monthly expenses
Indicates the number of months your contingency fund will support you during a period of low or no income.
>> It is a measure of your ability to meet unexpected expenses like medical or legal exigencies.
>> Helps you tide over periods of reduced earnings like a job loss or tax deductions in Jan-March.
>> Allows you to take advantage of financial opportunities like making a down payment on a house.
• The ideal level is between 3 and 4. Maintain a sweep-in account that has enough funds to last 3-4 months.
• A figure of above 6 indicates overcautious nature and you may be losing out by not deploying your funds more productively.
• Anything below 2 is risky
Savings ratio = Cash surplus / Income after tax
Tells you if you are saving as much as you should.
>> Indicates proportion of your post-tax income being saved every month.
>> It is also a measure of your financial acumen because it indicates whether you are a proactive investor or a lazy one.
• A reading of above 10% is considered fair.
• If it is above 25%, you can deploy your money more gainfully.
• Anything below 8% is a sign of caution.
Debt servicing ratio = Monthly loan payment / Monthly take-home income
Measures your ability to repay your debts.
>> Indicates if you have overstretched while buying assets on credit.
>> The leveraging should ideally reduce as a person grows older.
• Housing loan: 40-45%; auto/personal loan: 20-25%; credit card: 10-15%.
• Overall EMI servicing across categories should not be more than 40-45% of take-home pay.
Solvency ratio = Net worth / Total assets
Indicates the degree of solvency or cushion that you have.
>> Indicates your ability to take risks.
>> Unpaid home loans mean you do not ‘own’ that Rs 50-lakh house.
>> The notional value of your stock portfolio plummets if the markets crash.
• A cushion of above 50% is a safe level, indicating quality assets.
• Anything less than 20 indicates that a 20% fall in the value of your assets could make you insolvent.
While the ideal targets are benchmark figures, in certain cases these may vary with income level and age. However, this should give you a fair idea of your financial standing.

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