Limiting Liabilities: Leading ways to avoid debt

Are you making financial progress or are you living paycheck to paycheck? Along with 80-90% of Filipinos, you might not be following a strict budget. However, if you start following a budget plan, you can limit your liabilities, have enough money for savings or an emergency fund, and stay out of debt.

According to the Bangko Sentral ng Pilipinas, Filipino credit card debt is over PHP 297.49 billion. Among the types of debt in our country, unpaid credit balances are the easiest to accumulate.

The figure shows that it is easy for Filipinos to get into debt but difficult to get out. Here are effective tips to avoid debt:

• Understand your cash flow
• Set a budget
• Evaluate your discretionary spending
• Spend within your discretionary budget
• Use your credit card wisely

What are liabilities?

Liabilities refer to debts, obligations, and financial responsibilities you owe to an institution like your bank. They are typically due and payable within an agreed period of time. Common examples include car loans, housing loans, or monthly installments for a laptop or smartphone that you recently purchased. If you’re not careful about the number of liabilities you have, you risk spending more than you earn. This can land you in long-term debt.

Ways to limit your liabilities:

1. Understand your cash flow

How well do you know the ins and outs of your finances? Being “money smart” means looking for ways to make your hard-earned cash go further. This starts with understanding your personal cash flow, which considers all the money going in and out of your bank account.

Your cash flow consists of two factors:

• Income. This is the money you receive from your salary or wages, financial assistance from the government such as subsidies and allowances, and other types of income from investments.
• Expenses. This is the money you spend. It can be broken down into two categories: essential and discretionary expenses. Essential expenses are your living expenses such as utility bills, rent or home loans, groceries, and clothes. Meanwhile, discretionary expenses refer to what you typically spend on to maintain your lifestyle.

Having a positive cash flow occurs when your total income is greater than your expenses per month. In contrast having a negative cash flow means your expenses are more than your income. When managing liabilities, you always want to have a positive cash flow.

2. Set a budget

If you’re looking for ways on how to avoid debt problems, look no further than budgeting. With proper budgeting, you can create a positive cash flow that will put you on the right track to being debt-free. One way to start a budget is to apply the 50-30-20 rule, a favorite among budgeting beginners and financial experts. The 50-30-20 rule works by breaking your spending into three main categories:

• Necessities-50%: This category includes all living expenses you need to pay each month such as shelter, utilities, and food.
• Discretionary spending-30%: This covers all your non-essentials, such as entertainment and travel. It is basically anything you want but do not need.
• Savings-20%: This portion of your budget is for the money you're putting towards your financial goals, like a retirement account or an emergency fund.

To start a budget with the 50-30-20 rule, look at your monthly expenses. Track every peso you spent for the last three to four months By looking at your expenses for the previous months, you can form an idea of how much you spend on a regular basis and set a budget.

3. Evaluate your discretionary spending

You need to evaluate your discretionary expenses too. Discretionary expenses can be divided into two categories:

• Obligatory spending–This refers to payments that you get billed for monthly such as your car loan, gym membership, and Netflix subscription.
• Disposable cash–This is the portion of your budget you spend on things such as travel or entertainment. Eating at restaurants and weekend activities fall under this category too.

There are nuances between obligatory spending and disposable cash. For instance, you might get the newest smartphone on a monthly installment and tag it under obligatory spending. But if you still have a fully functional smartphone with great features, then you don’t need a new one. This means it’s more apt to put it under disposable cash.

4. Spend within your discretionary budget

Keeping your discretionary spending up to 30% is what limiting liabilities is all about. To help keep your discretionary expenses to a minimum, ask yourself these three questions:

• Do I really need it? For instance, if your commute to work is seamless and convenient, do you really need a car?
• Can I get a less costly version that will still give me all the features I need? Going back to the smartphone example, can you find a cheaper smartphone with similar or even better features?
• Will I need it permanently, or could I rent or borrow instead? For example, if you are going on a trip abroad and need a DSLR to capture great photos. Perhaps you can borrow a camera from a friend or rent one online instead of buying a new one.

Always ask yourself these questions before signing up for a loan. Once you've identified your discretionary expenses, you can make better judgments about their value and cut out unnecessary spending, so you stick to the 30% and stay out of debt.

5. How to avoid credit card debt

When you use your credit card, you actually incur debt. This is not necessarily a bad thing. If you know how to use your credit card wisely, it is a powerful tool. Your credit card can make life better and more convenient. So, make sure that every purchase will contribute positively to your life. Have the funds available to pay for your credit card bill on time and in full to avoid late fees and penalties. If you do not have the money on hand, look for 0% installment offers that allow you to make monthly payments at no added interest.

If you do incur late fees, pay them off at once as these fees compound over time.

It’s All About Adjusting Your Spending

When you're still learning how to budget, it's okay to not hit the 50-30-20 ratio right away. For instance, if you find that your living expenses take up more than 50% of your budget, you can tweak your spending over time and eventually work up to that ratio. Having a clear delineation between the percentages in your budget, as well as understanding the composition of obligatory spend versus disposable cash understanding, also help you in managing your liabilities so you don't overspend on the things you can live without.

Use the steps above as a guide not only on limiting liabilities but on how to avoid debt problems. As you build momentum, you can actively avoid debt and look toward more long-term financial goals, such as saving for a house or setting up a retirement fund. To help you conveniently track your expenses, use Metrobank's digital services.

Wherever you are and whatever device you use, you can access your Metrobank account to actively monitor your transaction history, check your balance, pay your bills, and so much more. It’s easier and more secure banking at your fingertips.