Debt is a way of life for many Canadians. As a country, Canada has the highest household debt of all of the G7 nations; the average Canadian carries $21,931 in non-mortgage debt, and 54% of Canadians feel worried about their debt.
Thousands of Canadians either declare bankruptcy or take on a consumer proposal (a legal debt settlement) each year. From these statistics, it’s clear that many Canadian households are struggling with poor debt management, which can threaten their financial stability and prevent them from building any meaningful savings.
Thankfully, effective debt management can quickly improve your debt situation. It involves far more than just paying bills; it's about taking control of your money, improving your cash flow and building long-term wealth. Whether you're dealing with credit card balances, personal loans or a mortgage, understanding how to manage and reduce debt can transform your financial security and confidence.
In this article, we’ll explore key aspects of debt management, including the difference between good and bad debt, the most effective methods for paying off what you owe (including debt consolidation) and smart strategies to help you avoid growing more debt in the future. We’ll also discuss the advantages of seeking professional guidance from a financial advisor.
Understanding good debt versus bad debt
A critical first step in debt management is learning to distinguish between good debt and bad debt. How you manage each type of debt can significantly impact your financial health.
What is good debt?
Borrowing that can increase your net worth is considered good debt. It typically involves lower interest rates and contributes to wealth creation or income generation. Examples include:
- Mortgages: buying a home is the most significant financial decision for many Canadians. A mortgage allows you to become a homeowner while building equity over time, through paying off the mortgage and property value appreciation.
- Student loans: investing in education can lead to higher future earnings. While tuition debt can be a burden, it often pays off in the long run through increased career opportunities.
- Home equity loans/lines of credit: tapping into your home’s equity to make renovations can increase the value of your home and thereby grow your overall wealth.
What is bad debt?
Conversely, bad debt provides no return on investment and usually carries high interest rates. It can deplete your finances without contributing to asset building or future income. Common forms of bad debt include:
- Credit card debt: with average interest rates well above 19%, carrying credit card balances is very costly, and they can be extremely difficult to pay off.
- High-interest personal loans: many unsecured loans have high interest rates, and all have rigid repayment schedules, which can limit your cash flow.
- Consumer financing: this includes high-interest financing for electronics, furniture or vehicles, all of which depreciate quickly.
Over time, bad debt can have a long-term impact on your cash flow, limit your ability to save and damage your credit score.
How to pay off debt: proven strategies
One of the most effective ways to improve your cash flow and free up money for savings and investments is by reducing debt. But where do you start? Thankfully, there are a number of methods that can be adopted, depending on your situation and preferences. Here are three tried-and-tested debt management strategies to consider.
The debt avalanche method
- Start by listing your debts in order, with those with the highest interest rate at the top, progressing down to those with the lowest interest rate.
- Make sure to make the minimum payments on all your debts.
- Channel any leftover funds to the debt carrying the highest interest rate.
- Once that high-interest debt is settled, move on to the next highest and continue until all the debts are paid.
If you have a 22% interest rate on your credit card, a personal loan at 12% and a car loan at 6%, you would focus on the credit card first, followed by the personal loan and then the car loan.
How it works: eliminating high-interest debt early can save you a substantial amount on interest payments over time. This will free up more money to pay off remaining debts faster.
For instance, a $15,000 credit card debt with a 19% interest rate could be paid off in three and-a-half years with monthly payments of $500. Once it’s paid off, this would save you $2,850 in interest annually. The debt avalanche method is a good debt management tool for people who have the patience to see gradual results.
The debt snowball method
For some people, the avalanche method can be frustrating, especially if your highest-interest debt is large. The debt snowball method allows you to celebrate the small wins sooner. Here’s how it works:
- Begin by listing all your debts, from the smallest balance to the largest.
- Make all minimum payments to ensure financial stability.
- Allocate extra funds to the smallest debt.
- Once that debt is paid off, move on to the next smallest debt.
How it works: by focusing on and eliminating smaller debts quickly, you get faster psychological wins that can build confidence and encouragement.
If you pay off a $500 loan or $1,000 store card, it can feel like a big win and motivate you, even if you still have bigger, higher-interest debts. While this debt management method might lead to you paying slightly more in interest over time, the psychological benefits can surpass the financial trade-offs.
Debt consolidation
Debt management can be really difficult when you’re trying to juggle multiple accounts with different due dates, interest rates and minimum payments. It’s not only time consuming but it can also make you feel overwhelmed. Depending on your financial circumstances, debt consolidation could be an excellent solution.
How debt consolidation works: you pay off your various debts with one single loan, line of credit or mortgage refinance, which has a lower interest rate and more manageable repayment terms. The goal with debt consolidation is to simplify your payments, reduce your monthly outgoings and save money on interest.
There are several loan options when you’re considering debt consolidation:
Personal loan: if you can secure a personal loan at a much lower interest rate than your current debts, this could be a good debt consolidation option. This approach can reduce the amount you pay on interest and provide a clear (and hopefully faster) timeline for repayment.
Home equity line of credit (HELOC): this is a revolving credit line secured by your home's equity. It typically has low interest rates and can be a flexible debt consolidation option because you can pay it off at your own pace (you only have to make a minimum of monthly interest payments). However, if you default on payments, you could risk losing your home. You could also take out a personal line of credit, but the interest rate would typically be higher. You can find out more about HELOCs here.
Mortgage refinance: this is when you renew your mortgage with a higher principal amount than what you currently owe. You then use that extra money to pay off your high-interest debt. With this debt management strategy, the key advantages are a low interest rate (mortgages tend to offer the lowest rates available) and payments are spread out over the lifetime of your mortgage (its amortization period). The main downside is that this debt consolidation option (like a HELOC) is only available to homeowners. Find out more about debt consolidation mortgages here.
Balance transfer credit card: many cards offer 0% introductory interest rates for 12–18 months, which means you can transfer high-interest balances to these cards and pay them off interest-free. Ideally, you’ll repay the full amount before the promotional period ends, unless you’re also able to secure a credit card with a much lower interest rate (there are several Canadian cards offering interest rates below 13%).
Managing future debt
There’s no point in working hard to reduce your debt if you don’t have all the tools and strategies in place to avoid getting back into debt in the future. These three strategies can help you to stay out of debt, which in turn will free up more income to put towards savings goals.
1. Make a budget: the foundation of debt management
Creating a realistic, comprehensive budget is the first — and most critical — step in managing your finances and staying out of debt. A budget is more than a list of expenses; it’s a roadmap for how to use your income. Without one, it’s easy to overspend, miss payment deadlines or fall into a debt spiral.
Start by adding up your monthly income (after taxes) from all sources, including salary, side gigs, investments, rental income, etc. Then, list your essential expenses. These could include:
- Rent or mortgage.
- Utilities.
- Insurance (car, home, life).
- Groceries.
- Transportation.
- Debt payments (credit cards, student loans, personal loans).
Next, total up your monthly non-essential spending. This is mostly the fun stuff, for example:
- Subscriptions (streaming, gym, software, etc.).
- Entertainment (movies, concerts, books) and dining out.
- Extras (like buying coffee and lunch at work).
- Birthday and holiday gifts.
Be honest and thorough; be sure to include irregular non-essentials, like coffee runs and impulse online purchases.
Once you've listed your income and expenses, compare them. If your expenses exceed your income, you’re living beyond your means, which is a red flag for debt accumulation. If you have surplus income, that’s great news: it means you have money to put toward debt repayment.
To manage expenditure, many people follow the 50/30/20 rule. This breaks down spending as a percentage of income, as follows:
- 50% for essentials.
- 30% for non-essentials.
- 20% for savings/debt payment.
This is just a general debt management/budgeting rule to aspire to; don’t panic if your numbers don’t align exactly with this breakdown. The goal is awareness and adjustment. You may need to reduce non-essential spending or find ways to increase your income to make the numbers work.
You can find out more about budgeting — for both the short and the long term — here.
2. Build an emergency fund: your financial safety net
Unexpected expenses are one of the biggest causes of debt. Car repairs, home maintenance and emergency travel, for example, can all quickly derail even the best financial plan, especially if you don’t have savings to fall back on. That’s where an emergency fund comes in.
Your emergency fund is a dedicated pool of cash, typically held in a high-interest savings account, that’s set aside for unforeseen costs and should strictly be used to pay for true emergencies.
Many financial experts recommend saving three to six months’ worth of living expenses. For someone with monthly expenses of $4,000, that means a target of $12,000 to $24,000. This can seem like a tall order for many people, so start small. Aim to save $500, then $1,000 and gradually build from there. Automate transfers from your chequing account to your savings each payday; even $50 per week adds up quickly.
Without an emergency fund, you’re more likely to rely on credit cards or high-interest loans when surprises arise, which is why this is so crucial for successful debt management. Otherwise, your debt will grow simply because of life’s unpredictability.
Remember to replenish your emergency fund soon after you need to withdraw from it. Keeping it in a totally separate account can help avoid the temptation to dip into it for non-emergencies.
3. Avoid taking on bad debt
Once you’ve paid off your debt (or consolidated it to a manageable level) and grown an emergency fund, the last thing you want to do is to take on more bad debt. And yet this is so easy to do.
Access to credit is easier than ever, and it can be extremely tempting to use that credit to pay for unnecessary non-essentials. If you’ve spent several years of improved debt management, tightening your belt to pay down debt, it can be almost irresistible to treat yourself to a show, a big night out or even a trip, and pay for it on your credit card, knowing you can’t immediately pay it off.
While this kind of spending can undoubtedly deliver immediate gratification, this kind of debt has a habit of spiralling out of control. And the longer you carry the debt, the more interest you’ll pay on it.
There are a number of strategies to help you avoid growing bad debt:
- Don’t treat your credit cards and lines of credit as an ATM.
- Use debit/your chequing account to pay for most of your expenses.
- If you do use a credit card to make a payment, make sure you can afford to pay off the balance immediately.
- Replace expensive entertainment with cheaper options (for example, invite friends over for dinner instead of meeting them in a restaurant, or download a movie instead of seeing it at the movie theatre).
- Avoid websites/stores where you’re most likely to make impulse purchases.
Managing to avoid taking on more debt can free up a lot of your income that can be used to provide you with greater financial security and confidence.
Get started with debt management
An IG Advisor is trained to help you to manage every single aspect of your financial life. While they’ll certainly help build an effective investment portfolio, they’ll also help you to save for retirement, build your estate plan, protect yourself from the unexpected and plan for large purchases. Helping you to manage your cash flow is also one of their key roles.
And, of course, a key element of that is debt management. They can help you develop and stick to a budget, consolidate debt and free up more of your income for saving. Talk to your IG Advisor today about how to manage your debt better. If you don’t have an IG Advisor, you can find one here.
Written and published by IG Wealth Management as a general source of information only. Not intended as a solicitation to buy or sell specific investments, or to provide tax, legal or investment advice. Seek advice on your specific circumstances from an IG Wealth Management Advisor. Trademarks, including IG Wealth Management and IG Private Wealth Management, are owned by IGM Financial Inc. and licensed to subsidiary corporations.
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