Rising interest rates force Canadians to control spending

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Sabrina Almeida

Are rising interest rates giving you nightmares? A new study shows that almost 75% off homeowners carrying mortgages are worried about the impact of higher rates on their monthly expenses.
How bad could it be? At the end of April some big banks hiked their 5-year posted rates to the highest levels since 2011 which was almost 2% higher than in March. Having to cough up even a few hundreds more every month could break budgets that were already frayed.

Now the Bank of Canada has increased the key rate a third time this year to 1.75%. Consequently, TD Canada Trust, CIBC, the Royal Bank of Canada and the Bank of Montreal also raised their prime lending rates to 3.95 per cent from Thursday.

While there might be reason to be anxious, most of us have ourselves to blame for any unnecessary financial stress. Years of record low rates have resulted in many over-reaching not just with their mortgage amounts but also other consumer debt like car loans and credit card bills. Home equity was (and probably still is) being misused to support an extravagant lifestyle. Hence even the smallest hikes could tank the monthly household budget of many families.

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For years financial analysts have been shouting themselves hoarse about the huge mortgages and personal debt Canadians are signing up for. (According to the Bank of Canada, the average Canadian carries debt of about $1.70 for every dollar of after-tax yearly income.) In fact, in addition to calming the real estate market, the new qualification rules were aimed at reducing risk of default in the absence of any restraint from the buyers themselves. Exorbitant prices, higher interest rates, fewer homes on the market and stricter rules seem to have reduced the frenzy. But that’s little reason to rejoice with reports that car loans are the next big-ticket item where Canadians are overextending themselves! This could explain the number of fancy cars you see on the road daily which might have also tempted you to overindulge.

A study by J.D. Power, based on sales data from more than 1,200 car dealerships across the country, recently revealed that Canadians are taking longer term loans to finance their dream vehicles. It showed that more than 50% of car loans were financed over 84 months (7 years) compared to what was a maximum of 60 months (5 years) previously.

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The seemingly low interest payments came with a price—a longer time to pay off the vehicle and more money (in interest payments) for lenders.

Although the monthly payments may be comfortable and the reason many jumped in, they probably didn’t realize that they might actually end up overpaying in the long run. According to financial experts after 6 or 7 years, the money you owe could be more than your vehicle is worth because it is a depreciating asset. A shorter-term loan, on the other hand, could mean paying less than this but bigger monthly payments. So, what’s the best option? Don’t buy what you cannot afford! Paying the whole amount upfront is generally the cheapest and most logical solution.

The same rule applies to store credit cards which we Canadians seemed to have developed a penchant for. I’ll admit I was initially tempted by the discounts, rewards and perks they entice you with. Thankfully the voice of reason (my husband) prevailed.

Often the ‘big’ savings and rewards are outrun by the high interest rates. Moreover, these programs are designed to keep you shopping… and in debt according to some financial experts. Most reward programs are aimed at bringing you back into the store and frequently. After all, you can only earn points when you shop, and the more you spend the more points you receive.

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Expectations of the Bank of Canada increasing interest rates again sent Canadians into another tizzy earlier this week. According to an Ipsos survey conducted on behalf of insolvency firm MNP, one in three respondents felt that higher interest rates could force them toward bankruptcy. This was around 6 per cent higher than a similar survey in June. The study also found that while 52 per cent were concerned about meeting their debt payments, 45 percent were already feeling the pinch. In addition to irresponsible spending and financial ignorance, stagnant wages are believed to be a reason for rising debt.

Given the latest hike, Bank of Canada Governor Stephen Poloz, would not be popular with a majority of Canadians with mounting debt. Yet there may be a silver lining as this latest hike and hints of more to come is forcing many of us (79% according to the Ipsos poll) to be more cautious and rethink our spending and borrowing habits. That a healthier economy is on the way is always reason to rejoice while holding on tightly to our wallets. -CINEWS

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