| |
What goes on in there?
|
The Psychology of Debt
Hazel Cottrell
hazel.cottrell@consumerchoices.co.uk
What are the psychological causes and effects of debt and how can we overcome them?
According to Credit Action, UK debt grows by £1 million every five minutes.
That’s more than £90 a week per household!
Credit Action reports that the total personal debt for the UK stood at £1,443 billion at the end of May this year and that the average household debt in the UK is approximately £9,223 (excluding mortgages). Furthermore, the statistics show that one person is declared bankrupt or insolvent every four minutes!
How have we become this nation in debt?
What is causing us to continually spend money that we effectively don’t have?
Back to the top
Using our guide
We all know that debt is unpleasant and we are frequently presented with its broader economic causes and implications in the news. But in this guide we will look beneath the surface and investigate some common behavioural traits associated with debt, as well as looking at ways in which we can overcome them.
On a practical level, you should assess your income and outgoings and check your credit cards and loans to ensure you are getting the cheapest deals, but if you truly want to free yourself from debt then it is essential that you assess the psychological aspect of debt.
Using this guide to look at why you spend and why you got yourself into debt in the first place can help you change your behavioural patterns, transform your relationship with money and greatly increase your chance of long-term financial freedom.
Back to the top
How do you spend?
If you are struggling with debt, a very important question to ask yourself is:
“What is my relationship with money?”
Often we project onto money the power to fulfil our fantasies, calm our fears and ease our pain. We believe we can buy everything from hope to happiness and we become determined to buy the life we dream of. However, when we spend on credit we are buying this dream with someone else’s money, and when the time comes to pay it back, these dreams can collapse.
There are a number of behavioural habits that can cause us to spend more than we have and that can lead to a continuation of the debt cycle. The following sections look at specific habits that you may recognise…
Back to the top
I rationalise my spending
No matter how much debt we are in, we use those three simple words “I deserve this” to convince ourselves that it is OK to splash out. We work hard to earn money and rationalise spending money to make ourselves feel better.
The result of this is that come mid- month when our creditors are demanding payment we lack the resources to pay. We get depressed, try to be thrifty for a few weeks and promise ourselves we will spend less, but by the time payday arrives we feel we are ready for a “treat” again. This is a vicious cycle and one that is hard to break.
Focusing on getting what we want now and putting off finding a way to pay for it until later is very dangerous. One payment we make on credit now can end up costing us double or more to pay back with interest and we can end up paying it back for years.
Try to identify the situations in which you find yourself losing control of your spending and look for ways to reduce these urges. This can be a difficult process but remember that ridding yourself of debt is no good unless you also rid yourself of the behaviour and thought processes that got you there in the first place.
Back to the top
I’m an optimistic spender
So many of us trust the future to cure today’s problems. We convince ourselves that we will have the money to pay off the purchase by the time the bill comes, and live under perpetual delusion that something better is just around the corner (whether this is a better job offer or a winning lottery ticket).
Look at your thought processes as you shop. Notice how you interact with money and what beliefs and attitudes you have about spending. What are you thinking while you shop? Do you consider the future consequences of your spending?
The reality is, we don’t know what the future holds. We cannot spend money according to what we might have in the bank in the future, but rather must match our outgoings to our current income.
Back to the top
I don’t feel in control
One of the most investigated factors of the psychology of debt has been the locus of control (i.e. how much you feel you control life’s situations). The hypothesis is that those who attribute their own success or failure to outside luck are more likely to find themselves in debt than those who attribute success and failure directly to their own actions.
This is a very interesting theory and firmly suggests that taking responsibility for your own actions can help you avoid debt. Assessing and accepting your past actions as causes of your current situation may help you to change the way you act now, but most important is realising that you can control your future and that it will be your own actions that will get you out of debt.
Back to the top
I equate money with happiness
Studies have show that people are more likely to engage in impulse spending when they are experiencing low self-esteem. In The Economic Mind – The Social Psychology of Economic Behaviour, Adrian Furnham and Alan Lewis describe how we can become programmed to associate the process of spending money with feelings of joy.
Psychologists have also observed that money habits often stem from childhood influences. If you were brought up in a household where it was important to be careful with money and count every penny then it is quite likely you will be frugal in later life. Conversely, if money was scarce at home but you were showered with gifts on special occasions, then it is more likely that you will continue to use money as an emotional crutch and spend accordingly.
Try to assess your own relationship with money - do you equate spending with happiness? Identify your own behavioural habits and remind yourself that money and consumption do not define who you are. As you begin to believe this you will feel less of the need to generate positive feelings by purchasing things and find it easier to stop yourself buying things you don’t need.
Even if spending habits have been in place since childhood, with a little bit of awareness and self-control, they can be broken.
Back to the top
I pay for everything with my card
People are much more likely to buy, or spend, more when they are paying with a credit card rather than cash. Credit cards offer the pleasure of purchasing without the immediate financial pain – you don’t feel like you’re spending real money. These pleasant feelings appear disconnected in our minds from the inevitable unpleasant feelings that will come later with the credit card statement. The solution? Stop paying with your card and use good old fashioned cash.
Back to the top
I deny that I have a problem
When it comes to debt, denial is a big part of the problem. It starts when we don’t bother reading the “small print” on the credit agreements we sign and ends with us refusing to open our bills, preferring instead to bury our heads in the sand and pretend nothing is wrong.
According to CreditExpert, only one in four adults can accurately state how much they have left to pay on outstanding loans and a shocking one in ten adults admit they have no idea how much debt they are in.
But debt does not go away by itself. Quite the opposite, the more we ignore it the larger it grows and just paying the minimum payments - which many of us are guilty of - is not enough. Denying your debts will ultimately lead to a crisis, so keeping on top of your finances is absolutely essential – follow the five step “Practical Solutions” plan below.
Back to the top
Case Study – Olivia Buck
Our own regular blogger, Olivia Buck, realised her 28th birthday was looming and owing a total of nearly £10,000, it dawned on her that she could still be in debt in her thirties. She decided to turn things around, but it wasn’t easy:
“My main spending hazard is when I've just been paid or just had money for a birthday present - I think "I should treat myself - I've worked hard for this money / I've worked hard to remain alive for another year / etc" and then I go on a splurge. Inevitably I spend more than I should, and it doesn't really feel like a treat when I discover that I've got no money for the rest of the month.
“The main problem with being in debt is that it feels like a vicious circle. Normally, when you have problems, you try not to think about them by doing other things - going out with friends, getting stupendously drunk, or even just going swimming or for a nice long drive. But everything costs money. If you haven't even got enough for a pint to cry into, you're in big trouble.
“Whenever you think about the amount you owe, or whenever you apply for new credit or wonder what it would be like to own a house, it's a horrible feeling. People use the term "drowning in debt" because it feels claustrophobic, like there's no way out.
“When I finally sat down and worked out exactly how much I owed, I was stunned beyond belief - I would have to really work hard at paying it back to even stand a chance at being debt-free by my thirtieth birthday. But, I also started thinking it would be a really huge achievement, not only to pay it back, but to change my spending habits once and for all. With any luck, after I've paid off my debt, everything I've learned along the way will stand me in good stead to save up for a new car and a deposit on a house!”
Read more from Olivia Buck’s Debt Diary, follow her journey from debt to freedom and cheer her along the way…
Back to the top
Practical solutions
Whilst there is no easy or painless solution to overcoming debt, with a bit of hard work and determination to succeed you can change your spending habits and free yourself from your debt. You can start by following our five step plan:
1. Face the facts - If you have a hidden stash of bills, bank statements and debt collection letters, the first thing you need to do is open them. The only way to combat debt is to face the facts- identify exactly how much you owe and to whom, how much interest you are paying, and what your minimum monthly repayments are - then take control of the situation.
2. Write a budget - On a practical level, you will need to write a budget and stick to it. Using a Statement of Affairs calculator can be very effective in giving you a clear idea of how much money you have coming in and going out each month. Keeping accurate records of what you are spending your money on is one of the most crucial aspects of staying in control, because once you know where your money is going, you can define your true needs and identify where you could save.
3. Devise an action plan - Creating an action plan and targets for your debt repayment can help maintain motivation. We have several guides for coping with debt, including specific guides for students, homeowners, first time buyers, single parents and those in retirement.
4. Increase your monthly repayments – This will dramatically reduce your repayment period, as well as reducing the total interest you will pay.
By way of example, let’s look at the Barclaycard Platinum, which charges a competitive 14.9% APR and 2.25% minimum monthly charge. The following table shows you how long it would take you to clear your debts paying only minimum payments:
| Amount Borrowed |
Years it will take you to pay off (Mimimum repayments) |
Total you will pay |
| £1,000 |
17 |
£2,060 |
| £2,000 |
23 |
£4,292 |
| £5,000 |
29 |
£10,977 |
It’s shocking - 29 years to clear a debt of £5,000, that’s nearly half a lifetime!
But, if you increase your repayments by just £20 a month, you could knock years and hundreds of pounds off your loan:
| Amount Borrowed |
Years it will take you to pay off (Mimimum repayments PLUS £20) |
Total you will pay |
| £1,000 |
3 |
£1,236 |
| £2,000 |
5.5 |
£2,765 |
| £5,000 |
10 |
£8,095 |
5. Communicate - Too often people don't get the information or support they need to deal with financial difficulties because they are ashamed of their debt and afraid to talk about their situation. Being in debt is not a crime and it certainly does not make you a ‘bad’ person. By choosing to face your debt you are making a positive decision and moving forward from the past.
It’s crucial that you communicate with your family and friends but it’s also important that you communicate with your creditors - if you are having trouble with repayments let them know. They usually respond more sympathetically once they are aware of your problems and may be able to work out a series of lower payments or freeze your interest for a while.
If you problems feel unconquerable, organisations like the Citizens Advice Bureau, National Debtline and the Consumer Credit Counselling Service can offer you advice.
Are you struggling with debt? Share your experiences and tips in our Forum
| 
