🕳️ Debt Management: Fallen into the hole?

The UAE is a country that encourages spending. The hot weather, water, endless entertainment options, sports clubs, beach clubs and brunches drive up leisure spend. High housing costs, education fees and medical expenses make for an expensive baseline.

At the same time, life can throw you curveballs, creating unexpected one-off costs or gaps in income. And so all of us, no matter how financially savvy, can one day find ourselves in debt.

Falling into debt is nothing to be ashamed of. It's a topic that isn't spoken about enough as people are often too embarrassed to ask for help. Recognising that it's a problem and having an approach to getting of debt is the most important thing.

So we decided to devote this edition of Money Luna to introducing what debt is, the various types of it and some important debt management techniques. If we can help one person get out of debt, that's mission accomplished.

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The different types of debt

Not all debt is created equal. There is absolutely no problem with having some level of debt. The important part is to remain in control of your debts, whilst ensuring the costs of interest are not spiralling.

Below are the most common types of finance you need to be aware of and know how to use it:

• Mortgages & home improvement loans - There is nothing wrong with having a mortgage with an attractive interest rate that supports long-term value creation. In fact, it's how the majority of people buy their homes and interest rates are usually low.

• Car loans / finance - Used to support a car purchase, usually requiring a 20% deposit in the UAE. With moderate interest rates and value in the form of car ownership, they can be a useful tool to help you manage your finances.

• Personal loans - With a higher interest rate, personal loans can be used to carry you through unexpected life events. Due to their higher costs, they need to be managed carefully to ensure you don't spiral into debt.

• Payday loans and Buy Now Pay Later (BNPL) - Instant cash loans that can either support a specific purchase or tide you over until the next payday. While some may be advertised as 0% interest, the fees for missing payments and interest on late payments are often very high.

• Credit card debt - Another very expensive option of financing with interest rates often exceeding 40% (but not if you pay them off in full every month!). Carrying debt on a credit card should be avoided.

How does interest work?

Simply put, interest is the fee a lender charges to provide you with money. Interest is usually expressed as an annual % but applied monthly on the borrowed amount.

However, if you are not paying back your loans, the interest is added to your balance and the following month you also pay interest on the previous month's interest, which is where the spiralling starts.

Why is debt so hard to get out of?

When someone's fallen into uncontrolled debt, it usually means their expenses exceeded available income and savings. This may be for a variety of reasons, some of which may well be out of one's control.

If costs cannot be brought under control and/or income increased, people require more debt to stay afloat. More debt usually means more interest to be paid, thus further exacerbating expenses.

This vicious cycle is called a debt spiral and it requires an intervention to break that cycle.

How to get out of the debt spiral?

Getting out of the vicious cycle is never easy and is best done with support from friends & family, independent debt management advisors and/or lenders.

1. Reduce your costs of living - Whilst not always possible, you should try to reduce your expenses to the minimum. That includes leisure & entertainment, but also more fundamental costs like food and utilities. Our budgeting article provides you with an approach and tool you can use for that.

2. Consolidate your debt if you can - If your credit score is still viable, you should look at whether you can consolidate some of your high-interest debt into lower-interest finance. For example, eliminating credit card debt and BNPL debt and paying it off using a personal loan, will be more cost-effective. Shifting debt onto a 0% balance transfer card, which we wrote about previously, can also help.

3. Focus on repayments - Start clearing off your debt balances one by one. You can start with the small debt, then move on to the next smallest etc. (that's called the snowball approach) or focus on the highest-interest debt first and slowly move to lower-interest debts (the avalanche approach).

4. Speak to your lender about repayment plans or settlement - If you are struggling to make payments, you should engage your lender early on. The UAE law puts an obligation on lenders to work with their distressed debtors to find a resolution. Often, they will agree a repayment plan with you or in some cases you can enter into a debt settlement agreement. Either way, this will help avoid debt collectors.

Who do I turn to for support?

Being in debt is mentally taxing and almost always has an impact on one's emotional well-being. You should never feel like you are alone with the problem and speak to your friends and family who can support you on an emotional level.

As mentioned above, lenders also have a duty of care so it's good to get them involved early too.

If you have any questions on debt management, feel free to message us and we will do our best to guide you to the right resources.

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Disclaimer: Please bear in mind that this email does not constitute financial advice. Any choices you make you are solely responsible for. We always aim to provide highest quality, independent views but do your own research to ensure you’re comfortable with any changes you make to your personal finances.